-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Ssw6FQjPudpj5zb3JHhvCGFwhlK8XwCpnqqvseuVJIM+zNYC6mai4CJmJdGOED7Y BGFW3WZUMF7t7t4zfC9wHw== 0000950132-98-000206.txt : 19980317 0000950132-98-000206.hdr.sgml : 19980317 ACCESSION NUMBER: 0000950132-98-000206 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980316 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: MASTECH CORP CENTRAL INDEX KEY: 0001024732 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROGRAMMING SERVICES [7371] IRS NUMBER: 251802235 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-21755 FILM NUMBER: 98565773 BUSINESS ADDRESS: STREET 1: 1004 MCKEE RD CITY: OAKDALE STATE: PA ZIP: 15071 BUSINESS PHONE: 4127872100 MAIL ADDRESS: STREET 1: 1004 MCKEE RD CITY: OAKDALE STATE: PA ZIP: 15071 10-K 1 FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K [X] Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 1997 [ ] Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 Commission File Number 000-21755 MASTECH CORPORATION (Exact name of registrant as specified in its charter) PENNSYLVANIA 25-1802235 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 1004 McKee Road Oakdale, Pennsylvania 15071 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (412) 787-2100 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 par value Indicate by check mark whether the registrant (1) has filed all reports to be filed by Section 13 or 15(d) of the Securities Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] The aggregate market value of the voting stock held by non-affiliates of the registrant as of February 27, 1998 (based on the closing price of such stock as reported by NASDAQ on such date) was $462,546,175. The number of shares of the registrant's Common Stock, par value $.01 per share, outstanding as of February 27, 1998 was 23,669,476 shares. Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in a definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this form 10-K [ ] Documents Incorporated By Reference ----------------------------------- Portions of the Corporation's Proxy Statement, prepared for the Annual Meeting of Shareholders scheduled for June 1, 1998, to be filed with the Commission are incorporated by reference into Part III of this report. MASTECH CORPORATION 1997 FORM 10-K TABLE OF CONTENTS
PAGE ----- PART I ITEM 1. BUSINESS................................................................................. 3 ITEM 2. PROPERTIES............................................................................... 12 ITEM 3. LEGAL PROCEEDINGS........................................................................ 12 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...................................... 12 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.................................................................... 13 ITEM 6. SELECTED FINANCIAL DATA.................................................................. 14 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.............................................................. 15 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.............................................. 19 ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE..................................... 38 PART III ITEM 10. DIRECTORS AND OFFICERS OF REGISTRANT..................................................... 39 ITEM 11. EXECUTIVE COMPENSATION................................................................... 39 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT......................................................................... 39 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........................................... 39 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.......................... 39 SIGNATURE PAGES.................................................................................... 43 AUDITOR'S REPORTS.................................................................................. 44 FINANCIAL SCHEDULES................................................................................ 45
2 PART I ITEM 1: Business Summary Mastech Corporation, a Pennsylvania corporation, incorporated on November 12, 1996, ("Mastech" or the "Company") is a worldwide provider of information technology ("IT") services to large and medium-sized organizations. Mastech provides its clients with a single source for a broad range of applications solutions and services, including client/server design and development, conversion/migration services, Year 2000 services, enterprise resource planning ("ERP") package implementation services, Internet/intranet services and applications maintenance outsourcing. These services are provided in a variety of computing environments and use leading technologies, including client/server architectures, object-oriented programming languages and tools, distributed database management systems and the latest networking and communications technologies. To enhance its services, Mastech has formed business alliances with leading software companies such as Baan, Oracle and PeopleSoft. In addition, the Company has developed its own proprietary methodologies and tools, under the name SmartAPPS, that enhance the productivity of the Company's Year 2000 and other services. Mastech Systems, a Pennsylvania corporation through which the business of the Company has been conducted since its inception in July 1986, is an indirect, wholly owned subsidiary of the Company. In December 1996, Mastech completed the initial public offering of its Common Stock, and in December 1997, completed a secondary offering of its Common Stock. Subsequent to the initial public offering, Mascot Systems and Scott Systems, both of which are corporations organized under the laws of India, became wholly owned subsidiaries of Mastech Systems. In December 1997, the Company acquired Asia Pacific Computer Consultants Pty Limited ("Asia Pacific"), a Sydney, Australia-based information technology and telecommunications ("IT & T") services provider. Asia Pacific provides IT&T services covering all major platforms, software and languages. Services range from providing supplemental staff, to complete project management and systems development. Asia Pacific, which has offices in Sydney and Brisbane, was merged with Mastech's existing Australia operations and became a Mastech subsidiary, Mastech Asia Pacific. Financial information about the domestic and foreign operations of the Company are found on page 37 of this Form 10-K. Services rendered by the Company's foreign offices are considered foreign operations. The Company has no export revenues. Services Mastech provides its clients with a single source for a broad range of IT applications solutions and services, including: (i) client/server design and development; (ii) conversion/migration services; (iii) Year 2000 services; (iv) ERP package implementation services; (v) Internet/intranet services; and (vi) applications maintenance outsourcing. These services are provided in a variety of computing environments and use leading technologies including client/server architectures, object-oriented programming languages and tools, distributed database management systems, groupware and the latest networking and communications technologies. In addition, the Company has developed proprietary SmartAPPS methodologies and tools to enhance productivity. The Company's revenues are derived from fees paid by clients for professional services. Historically, a substantial majority of the Company's projects have been client-managed. On client-managed projects, Mastech provides professional services as a member of the project team on a time-and-materials basis. The Company recognizes revenues on time-and-materials projects as the services are performed. On Mastech-managed projects, Mastech assumes responsibility for project management and bills the client on a time-and-materials or fixed-price basis. Fixed-price contracts are recognized by the percentage of completion method. Revenues from international operations do not include revenues generated through offshore software development centers on U.S. client engagements. 3 The Project Control Office ("PCO"), located in the Company's headquarters, provides project management oversight for all North American client engagements. For offshore projects, the PCO is the point of contact during client business hours, establishing a clear line of communication with the project teams in India and the U.S. Mastech uses a proprietary Lotus Notes-based Global Project Tracking System to facilitate project management and control. The Company also utilizes PC conferencing tools to conduct "virtual" meetings. The Company offers many of its services through an existing offshore software development center in Bangalore, India which is connected via secure, high-speed satellite links to the Company's headquarters and client sites. Mastech is increasing its offshore capacity by developing additional offshore software development centers in Pune and Madras, India. Offshore software development offers clients certain advantages as compared to domestic development, including: (i) significant cost savings; (ii) faster delivery, as larger teams can be deployed; (iii) virtual 24-hour project schedules, due to the time difference between North America and India; and (iv) improved access to a large pool of IT professionals. The Company's services are described below:
METHODS/TOOLS SERVICES Client/Server Design and Development . SmartAPPS Client/Server . Project management . Languages: C/C++, Visual Basic, Delphi SmallTalk, Java . Requirements analysis and definition . Tools: Powerbuilder, Gupta, Developer/2000, . Evaluation and selection of applications Lotus Notes packages . DBMS/4GLs: Oracle, Informix, Sybase, Unify, SQLServer . Prototyping and re-use . Data modeling, data warehousing . GUI: Windows, Motif, X-Windows, OpenLook . Applications systems design and development . CASE Tools: Oracle*CASE, IEF, Bachman . Database design and administration . Systems development and implementation . Technology education and training Conversion/Migration SmartAPPS Migrate Methodology and Automated Conversion Tools . Project management . Automated tools development . User interface conversion . Code conversion and testing . Control language conversion . Data migration . Cutover and implementation Year 2000 . SmartAPPS 2000 . Impact analysis Impact Assessment and Automated Conversion Tools . Project planning . Viasoft . Year 2000 conversion . Microfocus Revolve . Compliance testing and validation . Cutover and implementation
4
METHODS/TOOLS SERVICES ERP Package Implementation . Oracle Applications . Project planning . Baan . Customization . PeopleSoft . Integration . SAP R/3 . Migration . Database design and administration . Systems support . Training Internet/Intranet . SmartAPPS Net . Mentoring services . Languages: Java, Javascript, HTML, C++, CGI . Consulting services . Tools: NetDynamics, ColdFusion, . Application development services . MS FrontPage, Netscape Livewire Pro . Enterprise Java application development and deployment . DBMS/4GLs: Oracle, Sybase, Progress, Informix, . Object-oriented analysis and design . SQL Server . Training services . Methodologies: UML for Java, . Design, development and deployment of . JavaBeans Component Framework applications that web-enable databases and legacy for Enterprise Java component systems development Applications Maintenance Outsourcing . SmartAPPS Maintain Methodology and Tools . Project planning . Baseline assessment and service level definition . Process enhancements . Modifications/enhancements to functionality . Interfaces and integration with new systems . Configuration management . Documentation and standardization . Applications productivity improvement . Trouble-shooting and problem resolution . 24-hours, 7-days per week emergency support
Additional Services--Education and Training Mastech's Education and Training Department provides employees with basic and advanced courses in key technologies such as Oracle, PowerBuilder, VisualBasic, Java and ERP packages including Oracle Applications and Baan. Mastech is planning to expand its training programs and courseware to offer them to its clients as a distinct value-added service. The Company has piloted this service with selected clients and has received positive feedback. Sales and Marketing Mastech sells its services to large and medium-sized organizations through a direct sales force of over 70 professionals. The Company's sales force is organized to meet the needs of the marketplace through four primary divisions: (i) the U.S. Professional Services Division; (ii) the Solutions Division; (iii) the Enterprise Package Solutions Division; and (iv) the International Division. Sales directors and representatives in each division are highly incentivized to cross-sell the services of other divisions. 5 The U.S. Professional Services Division includes four geographic regions, each of which is directed by a Regional Director. Each region includes multiple new business development managers. These individuals use a proprietary database of several thousand prospects to telemarket Mastech's services nationally. The Company subsequently sends interested prospective clients a written proposal providing information about the Company, its approach and methodology, schedules, team members, pricing and terms. Mastech leverages the mobility of its software professionals and its cost effective telephone selling model to service all areas of the U.S. Each geographic region also includes Corporate Account Managers who are responsible for selling Mastech's services to existing clients. These managers, Regional Directors and senior management meet frequently on a direct, face-to-face basis with clients. The U.S. Professional Services Division also focuses on developing national and global relationships with major systems integrators such as EDS, IBM, KPMG Peat Marwick, Ernst & Young and Oracle. Mastech assists these integrators in meeting their customers' needs by providing specialized technical expertise and complementary capabilities such as offshore development. The Solutions Division is responsible for securing and managing Mastech- managed engagements. This division has a dedicated sales and marketing team responsible for generating and qualifying leads and developing detailed project estimates and proposals. This team sells directly to large and medium-sized organizations and also partners with large systems integrators. The Enterprise Package Solutions Division manages engagements and provides IT professionals trained in ERP package implementation services. This division works directly with end-user clients and also as partners with both the ERP software vendors and systems integrators on teamed implementation efforts. The International Division operates through offices in six different countries. Each office is supervised by a Country Manager and supported by dedicated sales personnel that sell directly to new clients using an approach similar to the Company's U.S. sales approach. Additionally, these offices focus on leveraging Mastech's existing relationships with its U.S.-based multinational clients. These relationships are particularly strong with global systems integrators and often provide a foundation on which each of Mastech's international offices can build. Mastech's marketing organization works closely with the sales organization to constantly improve results by supporting it with market research to assist in strategic planning and tactical decision making, trade show selection and exhibit planning, marketing literature, advertising and public relations support. The marketing organization develops messages and positioning for such activities by analyzing market trends and competitors' activities. Clients Substantially all of the Company's clients are large and medium-sized organizations. During the year ended December 31, 1997, the Company provided services to over 495 clients worldwide in a diverse range of industries. The Company's strategy is to maximize its client retention rate and secure follow-on engagements by providing high-quality services and client responsiveness. A significant number of the Company's clients have selected Mastech on a recurring basis to provide additional services. The Company is a preferred vendor for several large organizations, including Associates Bancorp, Bank of America, EDS, IBM Year 2000 Global Services, KPMG Peat Marwick and Oracle. As a preferred vendor, the Company is one of a limited number of service providers to these organizations, enabling it to sell its services more effectively. The Company is aggressively pursuing additional preferred vendor arrangements in order to obtain new or additional business from large and medium-sized organizations. These contracts generally result in lower margins due to negotiated discounts, but are expected to generate higher revenues with lower selling costs. 6 Organizations to which the Company has provided, or is providing, services include:
Consumer Products Manufacturing Telecommunications Transportation ---------------- ------------- ------------------ --------------- J.C. Penney Ford Motor AirTouch Carnival Cruise Lines Nike General Electric Ameritech Royal Caribbean Philip Morris General Motors AT&T Ryder Systems Sears Hitachi MCI Union Pacific Wal-Mart Intel U.S. Cellular US Airways
Financial Integrators & Health Care Services Vendors ----------- -------- ------- Blue Cross/Blue Shield Bank of America Cap Gemini Foxmeyer Citibank EDS Health America Deutsche Bank Ernst & Young Kaiser Foundation Health The Hartford IBM Merck NationsBank Oracle
During the year ended December 31, 1997, approximately 29% of the Company's revenues were derived from its top five clients (EDS, IBM, Ernst & Young, The Hartford and CHCS/CTA). EDS accounted for approximately 13% of the Company's revenues for the year ended December 31, 1997. Risk Factors Recruitment and Retention of IT Professionals The Company's business involves the delivery of professional services and is labor-intensive. The Company's success depends upon its ability to attract, develop, motivate and retain highly skilled IT professionals and project managers, who possess the technical skills and experience necessary to deliver the Company's services. Qualified IT professionals are in great demand worldwide and are likely to remain a limited resource for the foreseeable future. There can be no assurance that qualified IT professionals will continue to be available to the Company in sufficient numbers, or that the Company will be successful in retaining current or future employees. Failure to attract or retain qualified IT professionals in sufficient numbers could have a material adverse effect on the Company's business, operating results and financial condition. Historically, the Company has done most of its recruiting outside of the countries where the client work is performed. Accordingly, any perception among the Company's IT professionals, whether or not well founded, that the Company's ability to assist them in obtaining temporary work visas and permanent residency status has been diminished, could lead to significant employee attrition. In the first eight months of 1996, the Company experienced a higher than normal rate of employee attrition because the Company was experiencing delays in securing the first-stage approval for permanent residency status for its foreign employees working in the U.S. This attrition resulted in the Company incurring increased costs for IT professionals and a reduction in its revenue growth. See "Management's Discussion and Analysis of Financial Condition and Results of Operations-Overview." Government Regulation of Immigration The Company recruits its IT professionals on a global basis to create a mobile workforce that it can deploy wherever required and, therefore, must comply with the immigration laws in the countries in which it operates, particularly the U.S. Over 90% of Mastech's IT professionals are citizens of other countries, with most of those in the U.S. working under H-1B temporary visas. Under current law, there is a statutory limit of 65,000 new H-1B visas that may be issued in any government fiscal year. In the federal fiscal year ended September 30, 1997, this limit was reached for the first time in August. In years in which this limit is reached, the Company may be unable to obtain enough H-1B visas to bring sufficient foreign employees to the U.S. If the Company were unable to obtain H1-B visas for its employees in sufficient quantities or at a sufficient rate for a significant period of time, the Company's business, operating results and financial condition could be materially adversely affected. Furthermore, Congress and administrative agencies with jurisdiction over immigration matters have periodically expressed concerns over the levels of legal and illegal immigration into the U.S. These concerns have often resulted in proposed legislation, rules and regulations aimed at reducing the number of employment-based visas and permanent residency visas that may be issued. Any changes in such laws making it more difficult to hire foreign nationals or limiting the ability of the Company to retain foreign employees, could require the Company to incur additional unexpected labor costs and expenses or result in the Company having insufficient qualified 7 personnel to perform all of the engagements that might otherwise be available to the Company. Any such restrictions or limitations on the Company's hiring practices could have a material adverse effect on the Company's business, operating results and financial condition. Variability of Quarterly Operating Results The Company's revenues and operating results are subject to significant variation from quarter to quarter depending on a number of factors, including the timing and number of client projects commenced and completed during the quarter, the number of working days in a quarter, employee hiring, attrition and utilization rates and the mix of time-and-materials projects versus fixed-price projects during the quarter. The Company recognizes revenues on time-and- materials projects as the services are performed, while revenues on fixed-price projects are recognized using the percentage of completion method. Although fixed-price projects have not contributed significantly to revenues and profitability to date, operating results may be adversely affected in the future by cost overruns on fixed-price projects. Because a high percentage of the Company's expenses are relatively fixed, variations in revenues may cause significant variations in operating results. Additionally, the Company periodically incurs cost increases due to both the hiring of new employees and strategic investments in its infrastructure in anticipation of future opportunities for revenue growth. No assurances can be given that quarterly results will not fluctuate, causing a material adverse effect on the Company's business and financial condition. Increasing Significance of Non-U.S. Operations and Risks of International Operations The Company's international consulting and offshore software development operations are important elements of its growth strategy. The Company opened offices in Canada and Singapore in 1995, Japan and the U.K. in 1996, and Australia, the Netherlands and the Middle East during 1997. These operations depend greatly upon business, immigration and technology transfer laws in those countries, and upon the continued development of technology infrastructure. There can be no assurance that the Company's international operations will be profitable or support the Company's growth strategy. The risks inherent in the Company's international business activities include unexpected changes in regulatory environments, foreign currency fluctuations, tariffs and other trade barriers, difficulties in managing international operations and potential foreign tax consequences, including repatriation of earnings and the burden of complying with a wide variety of foreign laws and regulations. The failure of Mastech to manage growth, attract and retain personnel, manage major development efforts, profitably deliver services, or a significant interruption of the Company's ability to transmit data via satellite, could have a material adverse impact on the Company's ability to successfully maintain and develop its international operations and could have a material adverse effect on the Company's business, operating results and financial condition. Although the Company's ownership of a U.S. trademark registration covering the service mark "Mastech" gives the Company the presumption of ownership in the U.S. of the "Mastech" mark for the services identified in the registration, there can be no assurance that the Company is entitled to use the designation "Mastech" in all international operations and there is the possibility that third parties have superior rights to the "Mastech" mark (or similar marks) outside the U.S. Exposure to Regulatory and General Economic Conditions in India A significant element of the Company's business strategy is to increase the utilization of its offshore software development centers in India. Mastech has utilized an offshore software development center in Bangalore for approximately one year and is in the process of opening two more centers in Pune and Madras, India. The Company also operates recruiting and training centers in India. The Indian government exerts significant influence over its economy. In the recent past, the Indian government has provided significant tax incentives and relaxed certain regulatory restrictions in order to encourage foreign investment in certain sectors of the economy, including the technology industry. Certain of these benefits that directly affect the Company include, among others, tax holidays (temporary exemptions from taxation on operating income), liberalized import and export duties and preferential rules on foreign investment and repatriation. To be eligible for certain of these tax benefits, the Company must continue to meet certain conditions. A failure to meet such conditions in the future could result in the cancellation of the benefits. There can be no assurance that such tax benefits will be continued in the future at their current levels. Changes in the business or regulatory climate of India could have a material adverse effect on the Company's business, operating results and financial condition. 8 Although wage costs in India are significantly lower than in the U.S. and elsewhere for comparably skilled IT professionals, wages in India are increasing at a faster rate than in the U.S. In the past, India has experienced significant inflation and shortages of foreign exchange, and has been subject to civil unrest and acts of terrorism. Changes in inflation, interest rates, taxation or other social, political, economic or diplomatic developments affecting India in the future could have a material adverse effect on the Company's business, operating results and financial condition. Intense Competition The IT services industry is highly competitive and served by numerous national, regional and local firms, all of which are either existing or potential competitors of the Company. Primary competitors include participants from a variety of market segments, including "Big Six" accounting firms, systems consulting and implementation firms, applications software firms, service groups of computer equipment companies, general management consulting firms, programming companies and temporary staffing firms. Many of these competitors have substantially greater financial, technical and marketing resources and greater name recognition than the Company. There are relatively few barriers to entry into the Company's markets and the Company may face additional competition from new entrants into its markets. In addition, there is a risk that clients may elect to increase their internal IT resources to satisfy their applications solutions needs. Further, the IT services industry is undergoing consolidation which may result in increasing pressure on margins. These factors may limit the Company's ability to increase prices commensurate with increases in compensation. There can be no assurance that the Company will compete successfully with existing or new competitors. Concentration of Revenues; Risk of Termination The Company has in the past derived, and may in the future derive, a significant portion of its revenues from a relatively limited number of clients. The Company's five largest clients represented approximately 29% and 30% of revenues for the years ended December 31, 1997 and 1996, respectively. EDS accounted for approximately 13% and 9%, of the Company's revenues for the years ended December 31, 1997 and 1996, respectively. Most of the Company's projects are terminable by the client without penalty. An unanticipated termination of a major project could result in the loss of substantial anticipated revenues and could require the Company to maintain or terminate a significant number of unassigned IT professionals, resulting in a higher number of unassigned IT professionals and/or significant termination expenses. The loss of any significant client or project could have a material adverse effect on the Company's business, operating results and financial condition. Management of Growth The Company's business has experienced rapid growth over the years that could strain the Company's managerial and other resources. Revenues have grown from $13.5 million in 1991 to $123.4 million in 1996 and $196.0 million for 1997. The number of employees has grown from 250 in 1991 to 3,125 as of December 31, 1997. The Company's continued growth depends on adding key managers, increasing its international operations, adding service lines and growing its offshore infrastructure. The Company has broadened its range of services to include Year 2000 compliance, ERP package implementation, Internet/intranet services and offshore software development. The Company opened offices in Canada and Singapore in 1995, Japan and the U.K. in 1996, and Dallas, Texas, Australia, the Netherlands and the Middle East during 1997. In addition, the Company's offshore software development center in Bangalore has been operational for over a year and two additional centers in Pune and Madras, India are scheduled to become operational during 1998. Effective management of these growth initiatives will require the Company to continue to improve its operational, financial and other management processes and systems. The failure to manage growth effectively could have a material adverse effect on the Company's business, operating results and financial condition. Rapid Technological Change; Dependence on New Solutions The IT services industry is characterized by rapid technological change, evolving industry standards, changing client preferences and new product introductions. The Company's success will depend in part on its ability to develop IT solutions that keep pace with changes in the IT services industry. There can be no assurance that the Company will be successful in addressing these developments on a timely basis or that, if these developments are addressed, the Company will be successful in the marketplace. In addition, there can be no assurance that products or technologies developed by others will not render the Company's services noncompetitive or obsolete. The Company's failure to address these developments could have a material adverse effect on the Company's business, operating results and financial condition. 9 A significant number of organizations are attempting to migrate business applications from a mainframe environment to advanced technologies, including client/server architectures. As a result, the Company's ability to remain competitive will be dependent on several factors, including its ability to help existing employees maintain or develop mainframe skills and to train and hire employees with skills in advanced technologies. The Company's failure to hire, train and retain employees with such skills could have a material adverse impact on the Company's business. The Company's ability to remain competitive will also be dependent on its ability to design and implement, in a timely and cost- effective manner, effective transition strategies for clients moving from the mainframe environment to client/server or other advanced architectures. The failure of the Company to design and implement such transition strategies in a timely and cost-effective manner could have a material adverse effect on the Company's business, operating results and financial condition. Dependence on Principals The success of the Company is highly dependent on the efforts and abilities of Sunil Wadhwani and Ashok Trivedi, the Company's Co-Chairman and Chief Executive Officer and the Company's Co-Chairman and President, respectively. Although Messrs. Wadhwani and Trivedi have entered into employment agreements containing noncompetition, nondisclosure and nonsolicitation covenants, these contracts do not guarantee that they will continue their employment with the Company or that such covenants will be enforceable. The loss of the services of either of these key executives for any reason could have a material adverse effect on the Company's business, operating results and financial condition. Risk of Preferred Vendor Contracts The Company is a party to several "preferred vendor" contracts and is seeking additional similar contracts in order to obtain new or additional business from large or medium-sized clients. Clients enter into these contracts to reduce the number of vendors and obtain better pricing in return for a potential increase in the volume of business to the preferred vendor. While these contracts are expected to generate higher volumes, they generally result in lower margins. Although the Company attempts to lower costs to maintain margins, there can be no assurance that the Company will be able to sustain margins on such contracts. In addition, the failure to be designated a preferred vendor, or the loss of such status, may preclude the Company from providing services to existing or potential clients, except as a subcontractor, which could have a material adverse effect on the Company's business, operating results and financial condition. Risks Related to Possible Acquisitions The Company may expand its operations through the acquisition of additional businesses. There can be no assurance that the Company will be able to identify, acquire or profitably manage additional businesses or successfully integrate any acquired businesses into the Company without substantial expenses, delays or other operational or financial problems. Further, acquisitions may involve a number of special risks, including diversion of management's attention, failure to retain key acquired personnel, unanticipated events or circumstances and legal liabilities and amortization of acquired intangible assets, some or all of which could have a material adverse effect on the Company's business, operating results and financial condition. Client satisfaction or performance problems at a single acquired firm could have a material adverse impact on the reputation of the Company as a whole. In addition, there can be no assurance that acquired businesses, if any, will achieve anticipated revenues and earnings. The Company recently acquired for cash the assets of an Australian IT services company. The failure of the Company to manage its acquisition strategy successfully could have a material adverse effect on the Company's business, operating results and financial condition. Intellectual Property Rights The Company's success depends in part upon certain methodologies and tools it uses in designing, developing and implementing applications systems and other proprietary intellectual property rights. The Company is also developing proprietary conversion tools, specifically tools tailored to address the Year 2000 problem. The Company relies upon a combination of nondisclosure and other contractual arrangements and trade secret, copyright and trademark laws to protect its proprietary rights and the proprietary rights of third parties from whom the Company licenses intellectual property. The Company enters into confidentiality agreements with its employees and limits distribution of proprietary information. There can be no assurance that the steps taken by the Company in this regard will be adequate to deter misappropriation of proprietary information or that the Company will be able to detect unauthorized use and take appropriate steps to enforce its intellectual property rights. 10 Although the Company believes that its services do not infringe on the intellectual property rights of others and that it has all rights necessary to utilize the intellectual property employed in its business, the Company is subject to the risk of litigation alleging infringement of third-party intellectual property rights. Any such claims could require the Company to spend significant sums in litigation, pay damages, develop non-infringing intellectual property or acquire licenses to the intellectual property which is the subject of asserted infringement. Risks Associated With Year 2000 Services The Company earned approximately 4% and 9% of its revenues from Year 2000 engagements in the years ended December 31, 1996 and 1997, respectively. The Company expects that it will continue to receive increased revenues from additional Year 2000 engagements in the near term. However, the Company expects that Year 2000 engagements and revenues derived from such engagements will peak prior to calendar year 2000 as companies address their needs. Thereafter, the Company expects that revenues derived from Year 2000 engagements will steadily decline. In the absence of additional revenues from other sources, a decline in such engagements could have a material adverse effect on the Company's business, operating results and financial condition. Fixed-Price Projects The Company undertakes certain projects billed on a fixed-price basis, which is distinguishable from the Company's principal method of billing on a time-and- materials basis. The failure of the Company to complete such projects within budget would expose the Company to risks associated with cost overruns, which could have a material adverse effect on the Company's business, operating results and financial condition. Potential Liability to Clients Many of the Company's engagements involve projects that are critical to the operations of its clients' businesses and provide benefits that may be difficult to quantify. Although the Company attempts to contractually limit its liability for damages arising from errors, mistakes, omissions or negligent acts in rendering its services, there can be no assurance that its attempts to limit liability will be successful. The Company's failure or inability to meet a clients' expectations in the performance of its services could result in a material adverse change to the client's operations and therefore could give rise to claims against the Company or damage the Company's reputation, adversely affecting its business, operating results and financial condition. 11 ITEM 2: PROPERTIES The Company leases 56,234 square feet of office space in the Pittsburgh suburb of Oakdale, Pennsylvania which serves as its headquarters. The Company's senior management, administrative, personnel, human resources and sales and marketing functions are housed in this facility. This lease expires on May 31, 2001 and provides for two additional options to extend the lease for consecutive five- year terms. The Company is currently exploring leasing additional space at its headquarters and at other locations. The Company has sales offices in Washington, D.C., Dallas and San Francisco. The Company has sales offices in several countries in order to develop business internationally. The Company currently leases office space in London, Singapore, Sydney, Brisbane, Amsterdam, Toronto, the Middle East and Tokyo. Mascot Systems leases one offshore software development facility totaling approximately 30,000 square feet in Bangalore, India and one recruiting facility totaling approximately 4,200 square feet in Pune, India. These facilities were established by the controlling shareholders to deliver the Company's offshore software development services to the Company's clients worldwide. Mascot Systems intends to lease from the controlling shareholders two additional offshore software development centers. These facilities, totaling 100,000 square feet, are located in Pune and Madras, India, and are scheduled for completion during the first quarter of 1998. ITEM 3: Legal Proceedings The Company is not a party to any litigation that is expected to have a material adverse effect on the Company or its business. ITEM 4: Submission of Matters to a Vote of Security Holders There were no matters submitted to a vote of shareholders during the fourth quarter of 1997. 12 PART II ITEM 5: MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Common Stock has been traded on the Nasdaq National Market under the symbol MAST since December 17, 1996. The following table sets forth, for the periods indicated, the range of high and low closing sale prices for the Common Stock as reported on the Nasdaq National Market.
High Low ---- --- 1996 Fourth Quarter (from December 17, 1996-December 31, 1996) $19 $17 1/8 1997 First Quarter $21 7/8 $15 Second Quarter $23 3/4 $11 1/2 Third Quarter $35 $22 3/8 Fourth Quarter $35 $23 1/2
On March 11, 1998, the Company had 71 registered holders of record of the Common Stock. The Company intends to retain all of its future earnings to fund growth and the operation of its business, and therefore does not anticipate paying any cash dividends in the foreseeable future. Future cash dividends, if any, will be at the discretion of the Company's Board of Directors and will depend upon, among other things, the Company's future operations and earnings, capital requirements and surplus, general financial condition, contractual restrictions and such other factors as the Board of Directors may deem relevant. The Company's ability to pay dividends is subject to the requirement of its revolving credit facility with PNC Bank that the Company satisfy certain financial covenants. The Company distributed approximately $6.3 million of the proceeds from the initial public offering to the controlling shareholders as part of the S-corporation termination. See "Management's Discussion and Analysis of Financial Condition and Results of Operations---Liquidity and Capital Resources." 13 ITEM 6. SELECTED FINANCIAL DATA
Years Ended December 31, ----------------------- (In thousands, except per share data) Income Statement Data: 1993 1994 1995 1996 1997 Revenues.................................. $38,709 $70,050 $103,676 $123,400 $195,967 Gross profit.............................. 12,573 20,135 31,262 33,947 60,818 Income from operations (1)................ 2,744 11,349 18,259 12,874 24,596 Interest and other income (expense), net.. (20) 95 137 (46) 1,414 Income before income taxes................ 2,724 11,444 18,396 12,828 26,010 Provision for income taxes (2)............ -- -- -- 4,136 10,404 ------- ------- -------- -------- -------- Net income................................ $ 2,724 $11,444 $ 18,396 $ 8,692 $ 15,606 Basic earnings per common share (3)....... $0.72 ======== Diluted earnings per common share (3)..... $0.71 ======== Pro forma income taxes (2)................ 1,090 4,578 7,358 4,915 ------- ------- -------- -------- Pro forma net income (2).................. $ 1,634 $ 6,866 $ 11,038 $ 3,777 ======= ======= ======== ======== Pro forma basic and diluted earnings per share (2) (3)............................ $0.09 $0.38 $0.60 $0.20 ======= ======= ======== ======== Weighted average common shares (3)........ 18,255 18,255 18,255 18,787 21,814 Diluted average common shares (3)......... 18,255 18,255 18,255 18,790 22,050 Balance Sheet Data: 1993 1994 1995 1996 1997 Cash and cash equivalents................. $ 2,897 $ 4,124 $ 3,026 $ 45,997 $ 82,408 Working capital........................... 5,678 13,745 14,594 49,692 111,992 Total assets.............................. 12,461 22,847 25,754 77,509 149,474 Total shareholders' equity................ 5,972 14,262 15,671 50,759 120,513
(1) Income from operations for the year ended December 31, 1996 reflects a non- recurring charge of $875,000 incurred pursuant to an agreement with an executive to pay, as compensation for past services, an amount equal to the value of 54,600 shares of Common Stock at the initial public offering price of $15 per share. The Company has reflected this payment along with the applicable tax withholdings as a non-recurring charge. For the year ended December 31, 1997, income from operations reflects a non-recurring charge of $518,000 relating to the amortization of deferred compensation for this same executive. (2) The Company's S-corporation status terminated on December 16, 1996 in connection with the Company's initial public offering of Common Stock, thereby subjecting the Company's income to federal and state taxes at the corporate level. Pro forma net income and pro forma net income per share reflect federal and state taxes (assuming a 40% effective tax rate) as if the Company had been taxed as a C-corporation for all periods presented. See Note 10 of Notes to Consolidated Financial Statements for information concerning the computation of pro forma net income per common share. In connection with the Company's conversion from S-corporation status to C- corporation status, the Company recorded a provision for income taxes of $3.9 million in the fourth quarter of 1996. (3) In the fourth quarter of 1997, the Company adopted Statement of Financial Accounting Standards No. 128, "Earnings per Share." Earnings per share for the pro forma periods were not impacted by the adoption of this Statement. See Note 10 of Notes to Consolidated Financial Statements for information concerning the computation of basic and diluted earnings per common share. 14 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following Management's Discussion and Analysis of Financial Condition and Results of Operations contains certain forward-looking statements that involve substantial risks and uncertainties. When used in this section, the words "anticipate," "believe," "estimate," "expect" and similar expressions as they relate to the Company or its management are intended to identify such forward-looking statements. The Company's actual results, performance or achievements could differ materially from the results expressed in, or implied by, these forward-looking statements. Factors that could cause or contribute to such differences include those discussed in "Risk Factors." Overview Mastech Corporation was incorporated in Pennsylvania on November 12, 1996. Mastech Systems, a Pennsylvania corporation through which the business of the Company has been conducted since its inception in July 1986, is an indirect, wholly owned subsidiary of the Company. In December 1996, Mastech completed the initial public offering of its Common Stock, and in December 1997, completed a secondary offering of its Common Stock. Subsequent to the initial public offering, Mascot Systems and Scott Systems, both of which are corporations organized under the laws of India, became wholly owned subsidiaries of Mastech Systems. In December 1997, the Company acquired Asia Pacific Computer Consultants Pty Limited ("Asia Pacific"), a Sydney, Australia-based information technology and telecommunications ("IT & T") services provider. Asia Pacific provides IT&T services covering all major platforms, software and languages. Services range from providing supplemental staff, to complete project management and systems development. Asia Pacific, which has offices in Sydney and Brisbane, was merged with Mastech's existing Australia operations and became a Mastech subsidiary, Mastech Asia Pacific. Mastech's revenues are derived from fees paid by clients for professional services. Historically, a substantial majority of the Company's projects have been client-managed. On client-managed projects, Mastech provides professional services as a member of the project team on a time-and-materials basis. The Company recognizes revenues on time-and-materials projects as the services are performed. On Mastech-managed projects, Mastech assumes responsibility for project management and bills the client on a time-and-materials or fixed-price basis. Fixed-price contracts are recognized by the percentage of completion method. Revenues from international operations do not include revenues generated through offshore software development centers on U.S. client engagements. Mastech's most significant cost is its personnel expense, which consists primarily of salaries and benefits of the Company's billable personnel. The number of IT professionals assigned to projects may vary depending on the size and duration of each engagement. Moreover, project terminations, completions and scheduling delays may result in periods when personnel are not assigned to active projects. Mastech manages its personnel costs by closely monitoring client needs and basing personnel increases on specific project engagements. While the number of IT professionals may be adjusted to reflect active projects, the Company must maintain a sufficient number of professionals to respond to demand for the Company's services on both existing projects and new engagements. While the number of IT professionals may be adjusted to reflect active projects, the Company must maintain a sufficient number of professionals to respond to demand for the Company's services on both existing projects and new engagements. In the first eight months of 1996, the Company experienced a higher than normal rate of employee attrition because the Company was experiencing delays in securing the first stage approval for permanent residency status for some of its professionals. This attrition resulted in increased costs for IT professionals and reduced revenue growth during this period. In response to this attrition problem, the Company increased its U.S. recruiting efforts, enhanced its training programs and worked with the Department of Labor to revise its filing procedures to resolve the delays. As a result of these initiatives, the Company's employee attrition rate returned to normal historical levels in September 1996 and have remained at such levels since that date. Since July 1995, the Company has incurred significant incremental expenses to help ensure that the Company has both an adequate number of skilled IT professionals and the infrastructure necessary to sustain the Company's growth. These expenditures were incurred in connection with: (i) the development of additional service offerings, including Year 2000 conversion services and ERP package implementation services; (ii) the establishment of a recruiting division to recruit IT professionals in the U.S. and worldwide; (iii) the opening of foreign sales offices to provide better access to the global market; (iv) the development of three offshore software development centers in India; (v) the hiring of additional managers to support a larger organization; (vi) the relocation of the Company's headquarters to larger, more efficient office space; and (vii) the establishment of a training center to improve the skill levels of new and current employees. While these expenses have increased the Company's selling, general and administrative expenses, the Company believes that the revenues expected to be derived as a result of these expenditures have not yet been fully realized. 15 Results of Operations The following table sets forth for the periods indicated, selected statements of operations data as a percentage of revenues:
Years Ended December 31, ------------------------ 1995 1996 1997 Revenues........................................................ 100.0% 100.0% 100.0% Cost of revenues................................................ 69.9 72.5 69.0 ----- ----- ----- Gross profit.................................................... 30.1 27.5 31.0 Selling, general and administrative expenses (1)................ 12.5 17.1 18.4 ----- ----- ----- Income from operations.......................................... 17.6 10.4 12.6 Interest and other income (expense), net........................ 0.1 0.0 0.7 ----- ----- ----- Income before income taxes...................................... 17.7 10.4 13.3 Provision for income taxes...................................... -- 3.4 5.3 ----- ----- ----- Net income...................................................... 17.7% 7.0% 8.0% ===== ===== =====
(1) Includes non-recurring charges of .7% and .3% of total revenues for the years ended December 31, 1996 and 1997, respectively. 1997 Compared to 1996 Revenues. The Company's revenues increased 58.8%, or $72.6 million from $123.4 million in 1996 to $196.0 million in 1997. This growth in revenues was primarily attributable to successful market penetration by the Company's domestic Enterprise Package Solutions Division, additional services provided to existing clients, engagements with new clients and the Company's continued expansion into international markets. The Company's client base increased from 369 clients in 1996 to 497 clients in 1997. Revenues from the Company's international operations increased from $11.1 million in 1996 to $27.6 million in 1997. Gross Profit. Gross profit consists of revenues less cost of revenues. Cost of revenues consists primarily of salaries and employee benefits for billable IT professionals and the associated travel and relocation costs of these professionals, as well as the cost of the independent contractors used by the Company. Gross profit increased 79.2% from $33.9 million in 1996 to $60.8 million in 1997. Gross profit as a percentage of revenues increased from 27.5% in 1996 to 31.0% in 1997. The primary reasons for the $26.9 million increase were higher margins in the Company's new service areas such as the Enterprise Package Solutions Division and a significant decline in the number of independent contractors used by the Company. Costs associated with the use of independent contractors as a percentage of cost of revenues decreased from 16.3% in 1996 to 7.4% in 1997. The number of IT professionals (including independent contractors) used by the Company increased from 1,529 as of December 31, 1996 to 2,893 as of December 31, 1997. Selling, General and Administrative Expenses. Selling, general and administrative expenses consist of costs associated with the Company's sales and marketing efforts, executive management, finance and human resource functions, facilities and telecommunication costs and other general overhead expenses. Selling, general and administrative expenses increased 71.9%, or $15.1 million from $21.1 million for 1996 to $36.2 million for 1997. As a percentage of revenues, selling, general and administrative expenses increased from 17.1% for 1996 to 18.4% for 1997. The increase in selling, general and administrative expenses reflects the Company's continued investment in infrastructure and in the initiatives required to implement the Company's marketing strategies. These costs include the development of additional service offerings, the expansion of its global recruiting capabilities, the opening of additional international offices, the establishment of training centers and the continued expansion of its offshore software development centers. In addition, the Company has incurred incremental costs subsequent to the Company's initial public offering. Interest and Other Income (Expense), Net. Other income was $1.4 million for 1997 compared to other expense of $46,000 for 1996. This increase in other income is the result of increased interest income from the investment of the net proceeds from the Company's public offerings of common stock. This increase in interest income was, however, partially offset by an increase in interest expense charged on borrowings outstanding under the Company's revolving credit facilities, principally to support the Company's Indian operations. These borrowings increased the Company's interest expense from $223,000 for 1996 to $504,000 for 1997. 16 1996 Compared to 1995 Revenues. The Company's revenues increased 19.0% from $103.7 million in 1995 to $123.4 million in 1996. This growth in revenues was primarily attributable to additional services provided to existing clients, engagements with new clients and the Company's continued expansion into international markets. The Company's client base increased from 308 clients in 1995 to 369 clients in 1996. Revenues from the Company's international operations increased from $1.4 million in 1995 to $11.1 million in 1996. The Company's revenue growth was limited by higher than normal employee attrition in the first eight months of 1996. Gross Profit. Gross profit increased 8.6% from $31.3 million in 1995 to $33.9 million in 1996. Gross profit as a percentage of revenues declined from 30.1% in 1995 to 27.5% in 1996. This decrease is directly attributable to an increase in costs for IT professionals, including higher salaries, employee bonuses, relocation expense and an increase in the use of independent contractors, incurred during 1996 as a result of a higher than normal rate of employee attrition. In the first eight months of 1996, the Company experienced this higher than normal rate of employee attrition because the Company was experiencing delays in securing the first-stage approval from the Department of Labor ("DOL") for permanent residency status for some of its professionals. This attrition resulted in increased costs for IT professionals and reduced revenue growth. In response to this attrition problem, the Company increased its U.S. recruiting efforts, enhanced its training programs and worked with the DOL to revise its filing procedures to resolve the delays. As a result of these initiatives, the Company's employee attrition rate returned to normal historical levels in September 1996. Costs associated with the use of independent contractors as a percentage of cost of revenues increased from 10.1% in 1995 to 16.3% in 1996. The number of IT professionals utilized by the Company (including independent contractors) increased from 1,248 as of December 31, 1995 to 1,529 as of December 31, 1996. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased 62.1% from $13.0 million in 1995 to $21.1 million in 1996. As a percentage of revenues, selling, general and administrative expenses increased from 12.5% in 1995 to 17.1% in 1996. This increase was primarily attributable to the expenses incurred to build the infrastructure necessary to support the Company's continued revenue growth. In addition to the incremental costs previously mentioned, the Company initiated a sales force recruiting program which resulted in a 50% increase from 1995 to 1996 in the number of sales-related personnel. In the fourth quarter of 1996, the Company recorded a non-recurring charge of $0.9 million related to an executive compensation agreement which provides for, among other things, a cash payment equal to the value of 54,600 shares of Common Stock at the initial public offering. Liquidity and Capital Resources In December 1997, the Company completed the registration of 3,000,000 shares of the Company's common stock for sale to the public. Of this total, 1,800,000 shares were newly issued by the Company, and 1,200,000 shares were sold by selling shareholders. The Company did not receive any part of the proceeds from the sale of shares by the selling shareholders. The net proceeds to the Company of the offering, were $51.3 million, after deducting underwriting discounts, commissions and offering expenses paid by the Company. In addition, the net proceeds to the Company, generated from Mastech's initial public offering in December 1996, were approximately $45.6 million, after deducting underwriting discounts and commissions and offering expenses paid by the Company. The proceeds from both offerings have been temporarily invested in short-term, investment grade, interest bearing securities. The Company will use these proceeds to develop new services, to expand existing operations, including offshore software development operations, for possible acquisitions of related businesses, and for general corporate purposes, including working capital. Management currently anticipates that the proceeds from these offerings together with the existing sources of liquidity and cash generated from operations will be sufficient to satisfy its cash needs at least through the next twelve months. During 1997, the Company used the initial public offering proceeds to pay approximately $0.9 million of corporate income taxes related to the termination of its status as an S-corporation. In April 1997, the Company also paid a dividend of approximately $6.3 million of undistributed S-corporation earnings due the controlling shareholders for the periods prior to the Company becoming a public Company. 17 Prior to the initial public offering, the Company generally financed its working capital requirements through internally generated funds. Since the initial public offering, the Company has financed its working capital requirements through internally generated funds and with the proceeds from the aforementioned offerings. The Company's financial statements reflect cash flow used by operations of approximately $2.5 million for 1997, and cash flow provided by operations of $11.0 million for 1996. The Company's cash provided by operations prior to the initial public offering does not reflect any income tax expense due to the Company's prior status as an S-corporation. Prior to the initial public offering, the Company made S-corporation distributions to its shareholders and in 1997 made the final S-corporation distributions. Capital expenditures for 1996 and 1997 were approximately $3.0 million and $5.7 million, respectively. During 1997, the Company spent approximately $2.7 million on computer and related equipment to support its technical, consulting and administrative functions. The Company also spent approximately $1.3 million in connection with the buildout and other development of the infrastructure for its offshore software development and training facilities in India, and approximately $1.6 million related to the implementation of a new management information system during this period. The estimated remaining cost to license and implement this new software, which is year 2000 compliant, is approximately $2.0 million, a portion of which will be expensed. The Company had a revolving credit facility with PNC Bank, National Association. Borrowings under this arrangement were unsecured, were limited to $15.0 million, interest at LIBOR (7.07 % at December 31, 1996), plus 1.0% or the prime rate (8.25% at December 31, 1996) and were payable upon demand. There were no borrowings outstanding under this arrangement as of December 31, 1996. Average outstanding borrowings under this arrangement were $1.4 million and $535,000 for the year ended December 31, 1996 and 1997, respectively. Effective May 30, 1997, the Company replaced the above mentioned revolving credit facility with a $25.0 million revolving credit facility with PNC Bank, National Association (the "Facility"). The Facility bears interest at a rate equal to LIBOR plus 1.0% or prime at the Company's option and borrowings are unsecured. The Facility contains certain restrictive covenants and financial ratio requirements which would limit distributions to shareholders and additional borrowings. There were no borrowings outstanding under this arrangement as of December 31, 1997. Average outstanding borrowings under this arrangement were $489,000 for the year ended December 31, 1997. As of December 31, 1997, Mascot Systems had aggregate borrowings of approximately $1.7 million outstanding under revolving credit agreements with ICICI Banking Corporation Limited and IndusInd Bank Limited, both of India. Interest rates charged on these borrowings range from 18.75% to 19.25% per year. As of December 31, 1997, there are no additional amounts available for borrowing under these facilities. These borrowings will be repaid by the Company upon approval by the government of India for the repatriation of such funds necessary to repay these obligations. The Company does not believe that inflation had a significant impact on the Company's results of operations for the periods presented. On an ongoing basis, the Company attempts to minimize any effects of inflation on its operating results by controlling operating costs and, whenever possible, seeking to insure that billing rates reflect increases in costs due to inflation. The Company invoices its clients in the local currency of the country in which the client is located. Gains and losses as a result of fluctuations in foreign currency exchange rates have not had a significant impact on results of operations. Recently Issued Accounting Standards In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS No. 130), the objective of which is to report and disclose a measure of all changes in equity of a company that result from transactions and other economic events of the period other than transactions with owners. SFAS No. 130 is effective for financial statements issued for periods beginning after December 15, 1997. The Company will adopt SFAS No. 130 in 1998. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131, "Disclosures About Segments of an Enterprise and Related Information" (SFAS No. 131), which requires the use of the "management approach" model for segment reporting. The management approach model is based on the way a 18 company's management organizes segments within the company for making operating decisions and assessing performance. Reportable segments are based on products and services, geography, legal structure, management structure or any other manner in which management segregates a company. SFAS No. 131 is effective for financial statements issued for periods beginning after December 15, 1997. The Company will adopt SFAS No. 131 in 1998. Other Matters The "Year 2000" issue concerns the potential exposures related to the automated generation of business and financial misinformation resulting from the use of computer programs which have been written using two digits, rather than four, to define the applicable year of business transactions. The Company has evaluated, and is continuing to evaluate, the potential cost associated with becoming Year 2000 compliant. The Company believes that its principal staffing and financial systems, which are licensed from and maintained by third party software development companies, are Year 2000 compliant. The Company is currently in the process of selecting additional staffing and financial systems which management expects to be Year 2000 compliant. Management does not anticipate that the remaining costs associated with assuring that its internal systems will be Year 2000 compliant will be material to its business, operations or financial condition. In 1997, the Company initiated a complete risk evaluation and assessment study to determine the preparedness level of customers, vendors, and other service providers for the Year 2000 and the subsequent impact on the Company. The review will be completed in June 1998 and based upon the results of the review, ongoing Year 2000 impact analysis and risk assessment will continue as management deems appropriate. The Company expects to incur internal staff costs as well as consulting and other expenses related to the risk evaluation and assessment project. Cost estimates for the project are not yet available. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company currently does not invest excess funds in derivative financial instruments or other market risk sensitive instruments for the purpose of managing its foreign currency exchange rate risk or for any other purpose. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Financial Statements and Supplementary Data required by this item are filed as part of this Form 10-K. See Index to Consolidated Financial Statements on page 21 of this Form 10-K. 19 MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING The accompanying consolidated financial statements of Mastech Corporation have been prepared by management, who are responsible for their integrity and objectivity. The statements have been prepared in conformity with generally accepted accounting principles and necessarily include amounts based on management's best estimates and judgments. Management has established and maintains a system of internal controls designed to provide reasonable assurance that assets are safeguarded and that the Company's financial records reflect authorized transactions of the Company. The system of internal controls includes widely communicated statements of policies and business practices that are designed to require all employees to maintain high ethical standards in the conduct of Company affairs. The internal controls are augmented by organizational arrangements that provide for appropriate delegation of authority and division of responsibility. The Company's consolidated financial statements have been audited by Arthur Andersen LLP, independent public accountants, whose report thereon appears on page 22 of this Form 10-K. As part of its audit of the Company's 1997 financial statements, Arthur Andersen LLP considered the Company's system of internal controls to the extent it deemed necessary to determine the nature, timing and extent of its audit tests. Management has made available to Arthur Andersen LLP the Company's financial records and related data. The Board of Directors pursues its responsibility for the Company's financial reporting and accounting practices through its Audit Committee, a majority of the members of which are independent directors. The Audit Committee's duties include recommending to the Board of Directors the independent public accountants to audit the Company's financial statements, reviewing the scope and results of the independent public accountants activities and reporting the results of the committee's activities to the Board of Directors. The independent public accountants have met with the Audit Committee with and without the presence of management representatives, to discuss the results of their audit work and their comments on the adequacy of internal accounting controls, and the quality of financial reporting. The independent public accountants have direct access to the Audit Committee. Sunil Wadhwani Co-Chairman, Chief Executive Officer and Director Jeffrey McCandless Vice President--Finance March 10, 1998 20 MASTECH CORPORATION INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page ------- Report of Independent Public Accountants......................................................... 22 Consolidated Balance Sheets as of December 31, 1996 and 1997..................................... 23 Consolidated Income Statements for the years ended December 31, 1995, 1996 and 1997.............. 24 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1995, 1996 and 1997................................................................ 25 Consolidated Statements of Cash Flows for the years ended December 31, 1995, 1996 and 1997....... 26 Notes to Consolidated Financial Statements....................................................... 27
21 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Shareholders of Mastech Corporation: We have audited the accompanying consolidated balance sheets of Mastech Corporation (a Pennsylvania corporation) and subsidiaries as of December 31, 1996 and 1997, and the related consolidated statements of income, shareholders' equity and cash flows for each of the three years in the period ended December 31, 1997. These Financial Statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these Financial Statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the Financial Statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the Financial Statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the Financial Statements referred to above present fairly, in all material respects, the financial position of Mastech Corporation and subsidiaries as of December 31, 1996 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. ARTHUR ANDERSEN LLP Pittsburgh, Pennsylvania, February 4, 1998 22 MASTECH CORPORATION CONSOLIDATED BALANCE SHEETS (Dollars in thousands)
December 31, December 31, ASSETS 1996 1997 ------------ ----------- Current assets: Cash and cash equivalents (cost approximates market value)........... $45,997 $ 82,408 Accounts receivable, net of allowance for uncollectible accounts............................................................. 23,160 51,920 Unbilled receivables................................................. 1,410 1,829 Employee and related party advances.................................. 2,591 1,777 Prepaid and other assets............................................. 601 1,309 ------- -------- Total current assets................................................. 73,759 139,243 ------- -------- Equipment and leasehold improvements, at cost: Equipment............................................................ 3,932 9,192 Leasehold improvements............................................... 736 888 ------- -------- 4,668 10,080 Less--Accumulated depreciation....................................... (918) (1,772) ------- -------- Net equipment and leasehold improvements............................. 3,750 8,308 ------- -------- Intangible assets, net -- 1,923 ------- -------- Total assets......................................................... $77,509 $149,474 ======= ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Revolving credit facility (Note 4)................................... $ 2,077 $ 1,721 Accounts payable..................................................... 3,934 4,342 Accrued payroll and related costs.................................... 8,898 17,088 Other accrued liabilities............................................ 1,089 2,342 S-corporation dividend payable (Note 12)............................. 6,500 -- Deferred revenue..................................................... 116 127 Deferred income taxes................................................ 1,200 46 Accrued income taxes................................................. 253 1,585 ------- -------- Total current liabilities............................................ 24,067 27,251 ------- -------- Deferred income taxes................................................ 2,683 1,710 Commitments (Note 6) Shareholders' equity: Preferred stock, without par value: 20,000,000 shares authorized, no shares outstanding.................................... -- -- Common stock, par value $0.01 per share: 100,000,000 shares authorized, 21,654,600 and 23,583,400 shares issued and outstanding, respectively (Note 9)........................ 217 236 Additional paid-in capital........................................... 51,168 105,390 Retained earnings.................................................... 197 15,803 Deferred compensation (Note 9)....................................... (776) (258) Currency translation adjustment...................................... (47) (658) ------- -------- Total shareholders' equity........................................... 50,759 120,513 ------- -------- Total liabilities and shareholders' equity........................... $77,509 $149,474 ======= ========
The accompanying notes are an integral part of these consolidated financial statements. 23 MASTECH CORPORATION CONSOLIDATED INCOME STATEMENTS (Dollars in thousands, except per share data)
Year Ended December 31, --------------------------------------------------------------- 1995 1996 1997 Revenues............................................. $103,676 $123,400 $195,967 Cost of revenues..................................... 72,414 89,453 135,149 -------- -------- -------- Gross profit......................................... 31,262 33,947 60,818 Selling, general and administrative expenses......... 13,003 20,198 35,704 Non-recurring charge (Note 8)........................ -- 875 518 -------- -------- -------- Income from operations............................... 18,259 12,874 24,596 Interest (income) expense, net....................... (164) 43 (1,414) Minority interest in net income of subsidiaries...... 27 3 -- -------- -------- -------- Income before income taxes........................... 18,396 12,828 26,010 Provision (credit) for income taxes Current............................................ -- 253 11,259 Deferred........................................... -- (17) (855) Termination of S corporation status................ -- 3,900 -- -------- -------- -------- Provision for income taxes....................... -- 4,136 10,404 -------- -------- -------- Net income........................................... $ 18,396 $ 8,692 $ 15,606 ======== ======== ======== Basic earnings per common share...................... $0.72 ======== Diluted earnings per common share.................... $0.71 ========
Pro Forma Information--(Unaudited) --------------------------------------- 1995 1996 Net income........................................... $18,396 $ 8,692 Pro forma income taxes............................... 7,358 4,915 ------- ------- Pro forma net income................................. $11,038 $ 3,777 ======= ======= Pro forma basic and diluted earnings per common share................ $ 0.60 $ 0.20 ======= =======
The accompanying notes are an integral part of these consolidated financial statements. 24 MASTECH CORPORATION CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (Dollars in thousands)
Additional Currency Total Paid-in Retained Deferred Translation Shareholders' Common Stock Capital Earnings Compensation Adjustment Equity ------------------- Shares Par Value Balance, December 31, 1994........ 18,200,000 $182 $ 106 $ 13,975 $ -- $ (1) $ 14,262 Net income...................... -- -- -- 18,396 -- -- 18,396 Dividends....................... -- -- -- (16,987) -- -- (16,987) ---------- ---- -------- -------- ----- ----- -------- Balance, December 31, 1995........ 18,200,000 182 106 15,384 -- (1) 15,671 Net income...................... -- -- -- 8,692 -- -- 8,692 Dividends....................... -- -- -- (19,045) -- -- (19,045) Issuance of common stock......................... 3,400,000 34 50,216 (4,644) -- -- 45,606 Disproportionate dividend (Note 11)............ -- -- -- (190) -- -- (190) Acquisition of minority interest in Scott Systems....................... -- -- 28 -- -- -- 28 Restricted stock award.......... 54,600 1 818 -- (819) -- -- Amortization of deferred compensation.................. -- -- -- -- 43 -- 43 Currency translation adjustment.................... -- -- -- -- -- (46) (46) ---------- ---- -------- -------- ----- ----- -------- Balance, December 31, 1996........ 21,654,600 217 51,168 197 (776) (47) 50,759 Net income...................... -- -- -- 15,606 -- -- 15,606 Reduction of previously authorized S-corpora- tion dividend................. -- -- 162 -- -- -- 162 Issuance of common stock......................... 1,800,000 18 51,246 -- -- -- 51,264 Amortization of deferred compensation.................. -- -- -- -- 518 -- 518 Exercise of stock options....................... 128,800 1 2,814 -- -- -- 2,815 Currency translation adjustment.................... -- -- -- -- -- (611) (611) ---------- ---- -------- -------- ----- ----- -------- Balance, December 31, 1997 23,583,400 $236 $105,390 $ 15,803 $(258) $(658) $120,513 ========== ==== ======== ======== ===== ===== ========
The accompanying notes are an integral part of these consolidated financial statements. 25 MASTECH CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands)
Year Ended December 31, ----------------------- 1995 1996 1997 Cash Flow From Operations Net income............................................ $ 18,396 $ 8,692 $ 15,606 Adjustments to reconcile net income to cash provided by operations: Depreciation and amortization...................... 206 354 1,373 Allowance for uncollectible accounts............... 200 175 365 Minority interest.................................. 28 (54) -- Deferred income taxes, net......................... -- 3,883 (2,127) Amortization of deferred compensation.............. -- 43 518 Working capital items: Accounts receivable and unbilled receivables...................................... (3,743) (4,095) (29,544) Employee and related party advances................ 479 (2,065) 814 Prepaid and other assets........................... (353) (180) (708) Accounts payable................................... (713) 2,522 408 Accrued and other current liabilities.............. 2,183 1,739 10,786 -------- -------- -------- Net cash flow from operations...................... 16,683 11,014 (2,509) -------- -------- -------- Investing Activities: Additions to equipment and leasehold improvements........................................ (794) (2,973) (5,700) Acquisitions, net of cash acquired.................... -- 28 (2,154) -------- -------- -------- Net cash flow from investing activities............ (794) (2,945) (7,854) -------- -------- -------- Financing Activities: Net borrowings (payments) under revolving credit facility........................... -- 2,077 (356) Net proceeds from issuance of common stock............ -- 45,606 51,264 Proceeds from exercise of stock options............... -- -- 2,815 Dividends paid........................................ (16,987) (12,735) (6,338) -------- -------- -------- Net cash flow from financing activities............ (16,987) 34,948 47,385 -------- -------- -------- Effect of currency translation on cash.................. -- (46) (611) Net change in cash and cash equivalents................. (1,098) 42,971 36,411 Cash and cash equivalents, beginning of period.......... 4,124 3,026 45,997 -------- -------- -------- Cash and cash equivalents, end of period................ $ 3,026 $ 45,997 $ 82,408 ======== ======== ======== Supplemental disclosure: Cash payments for interest............................ $ 3 $ 223 $ 504 Cash payments for income taxes........................ $ -- $ -- $ 8,684
The accompanying notes are an integral part of these consolidated financial statements. 26 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Operations: In conjunction with the closing of its initial public offering on December 16, 1996, Mastech Systems Corporation, the entity through which the business of the Company had been conducted since its inception in July 1986, became an indirect, wholly owned subsidiary of Mastech Corporation ("Mastech" or the "Company"), which was incorporated in Pennsylvania on November 12, 1996. Mastech is a worldwide provider of information technology ("IT") services to large and medium-sized organizations. Mastech provides its clients with a single source for a broad range of applications solutions and services, including client/server design and development, conversion/migration services, Year 2000 services, Enterprise Resource Planning ("ERP") package implementation services, Internet/intranet services and applications maintenance outsourcing. These services are provided in a variety of computing environments and use leading technologies, including client/server architectures, object-oriented programming languages and tools, distributed database management systems and the latest networking and communications technologies. To enhance its services, Mastech has formed business alliances with leading software companies such as Baan, Oracle and PeopleSoft. In addition, the Company has developed its own proprietary methodologies and tools, under the name SmartAPPS, that enhance the productivity of the Company's Year 2000 and other services. Mascot Systems Pvt, Ltd. ("Mascot"), a wholly owned foreign subsidiary, was acquired upon the closing of the Company's initial public offering. Mascot is currently operating one and constructing two other offshore software development centers in the cities of Bangalore, Pune and Madras, India, respectively. Mascot's current operations serve as Mastech's single source for offshore software development. Also, during 1996, SWAT Systems Corporation, a Pennsylvania corporation ("SWAT"), was merged with and into Mastech Systems resulting in SWAT's wholly owned subsidiary, Scott Systems Pvt, Ltd. ("Scott"), an India-based corporation, becoming a wholly owned subsidiary of Mastech Systems. Scott provides IT professional recruiting and training services. As of December 31, 1997, all of Mascot, SWAT and Scott's revenues were derived from services provided to Mastech Systems. These transactions are described in Note 11. In December 1997, the Company acquired the assets of Asia Pacific Computer Consultants Pty Limited (Asia Pacific), a Sydney, Australia-based information technology and telecommunications (IT & T) services provider. Asia Pacific provides IT&T services covering all major platforms, software and languages. Services range from providing supplemental staff, to complete project management and systems development. The operations of Asia Pacific, which has offices in Sydney and Brisbane, were merged with Mastech's existing Australia operations and became a Mastech subsidiary, Mastech Asia Pacific. 2. Summary of Significant Accounting Policies: The accompanying Consolidated Financial Statements reflect the application of the following significant accounting policies: Principles of Consolidation The Consolidated Financial Statements include the accounts of the Company and its wholly owned subsidiaries. All material intercompany transactions and balances have been eliminated in consolidation. Accounts Receivable The Company extends credit to clients based upon management's assessment of their creditworthiness. Substantially all of the Company's revenues (and the resulting accounts receivable) are from large companies, major systems integrators and governmental agencies. The allowance for uncollectible accounts was approximately $500,000, $675,000 and $1,040,000 as of December 31, 1995, 1996 and 1997, respectively. 27 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Revenue Recognition The Company recognizes revenue on time-and-materials contracts as the services are performed for clients. Revenues on fixed-price contracts are recognized using the percentage of completion method. Percentage of completion is determined by relating the actual cost of work performed to date to the estimated total cost for each contract. If the estimate indicates a loss on a particular contract, a provision is made for the entire estimated loss without reference to the percentage of completion. Changes in job performance, conditions and estimated profitability may result in revisions to costs and revenues and are recognized in the period in which the changes are identified. Depreciation and Amortization The Company provides for depreciation using the straight-line method in amounts which allocate the costs of equipment over their estimated useful lives of five to seven years, and leasehold improvements over the shorter of the life of the improvement or of the underlying lease term. Intangible assets, which include the excess of cost over net assets acquired, are amortized using the straight-line method over periods ranging from 5 to 30 years. The Company assesses the recoverability of goodwill by determining whether the amortization of the goodwill balance over its remaining life can be recovered through undiscounted future operating cash flows. The Company believes that the carrying amount of these intangible assets will be realizable over their respective amortization periods. Currency Translation Adjustment The financial statements of foreign subsidiaries are translated using the exchange rate in effect at year-end for balance sheet accounts and the average exchange rate in effect during the year for revenue and expense accounts. Translation gains and losses are excluded from the consolidated income statements and are instead reported as the currency translation adjustment component of shareholders' equity. The functional currency of international offices and foreign subsidiaries is the currency of the country in which the office or subsidiary is located. Revenues of the Company are billed in the currency of the country in which the customer is located. Translation gains and losses arising from differences between the functional and billing currencies are recognized in the consolidated income statements. Mastech Systems has loans outstanding from Mascot Systems which have been eliminated in the accompanying consolidated balance sheet as of December 31, 1997. The terms of the loans provide for the scheduled repayment of principal and accrued interest in fiscal years 2001 through 2005. However, the Company considers these loans permanently reinvested, and therefore has recorded the related foreign transaction gains and losses in the currency translation adjustment as of December 31, 1997. Income Taxes The Company provides for income taxes in accordance with Statement of Financial Accounting Standards (SFAS) No. 109. Deferred income taxes are provided for the temporary differences between the financial reporting basis and the tax basis of the Company's assets and liabilities. Prior to its initial public offering, the Company elected to be taxed under Subchapter S of the Internal Revenue Code of 1986, as amended ("S-Corporation") for income tax purposes. Accordingly, the income of the Company was reported on the individual income tax returns of its shareholders. Therefore, the financial statements do not include a provision for income taxes related to income prior to the closing of the initial public offering. 28 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The Company's S-corporation status terminated in connection with the Company's initial public offering, thereby subjecting the Company's income to federal and state income taxes at the corporate level. Due to temporary differences in recognition of revenues and expenses at the time of the initial public offering, income for financial reporting purposes exceeded income for income tax purposes. Accordingly, the application of the provisions of SFAS No. 109, "Accounting for Income Taxes" resulted in the recognition of deferred tax liabilities (and a corresponding one-time charge to expense) of $3.9 million as of the date the S-corporation was terminated. The majority of this tax provision will be paid through the year 2000. In the recent past, the government of India has provided incentives, in the form of tax holidays, to encourage foreign investment. The Company's operations in India is eligible for a tax holiday for a five year period beginning in 1997. Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The majority of the Company's projects with customers, including those related to year 2000 conversion, generally provide that the Company will supply consultants to perform agreed-upon procedures under the customer's supervision. The Company's responsibility under these agreements with respect to each application is subject to satisfactory acceptance testing of such procedures within a limited, specified period of time. At this time, the Company is unable to quantify the potential risk to the Company related to year 2000 conversions from future claims in the event that certain year 2000 applications are not converted or do not perform in accordance with mutually agreed-upon acceptance criteria in the year 2000, which is beyond the limited, specific period of time set forth in the agreements. Nonetheless, management does not believe that claims that may arise as a result of the above will have a significant impact on either the financial position or the results of operations of the Company. The Company is a party to several "preferred vendor" contracts and is seeking additional similar contracts in order to obtain new or additional business from large or medium-sized clients. While these contracts are expected to generate higher volumes, they generally result in lower margins. Although the Company attempts to lower costs to maintain margins, there can be no assurance that the Company will be able to sustain margins on such contracts. In addition, the failure to be designated a preferred vendor, or the loss of such status, may preclude the Company from providing services to existing or potential clients, except as a subcontractor. Nonetheless, management does not believe that claims that may arise as a result of the above will have a significant impact on either the financial position or the results of operations of the Company. In 1997, the Company initiated a complete risk evaluation and assessment study to determine the preparedness level of customers, vendors, and other service providers for the Year 2000 and the subsequent impact on the Company. The review will be completed in June 1998 and based upon the results of the review, ongoing Year 2000 impact analysis and risk assessment will continue as management deems appropriate. The Company expects to incur internal staff costs as well as consulting and other expenses related to the risk evaluation and assessment project. Cost estimates for the project are not yet available. Financial Instruments The fair values and carrying amounts of the Company's financial instruments, primarily accounts receivable and payable, are approximately equivalent. The financial instruments are classified as current and will be liquidated within the next operating cycle. Pro Forma Information (Unaudited): The pro forma adjustments for income taxes included in the accompanying consolidated income statements are based upon the statutory rates in effect for C-corporations during the periods presented. Reclassifications Certain reclassifications have been made to the Company's 1995 and 1996 financial statements to conform to current year presentation. 29 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 3. Income Taxes The components of the provision (benefit) for income taxes for the years ended December 31, 1996 and 1997 are as follows:
December 31, December 31, 1996 1997 ------------- -------------- (Dollars in Thousands) Current provision-- Federal ......................................................................... $ 216 $ 9,312 State ......................................................................... -- 1,577 Foreign ......................................................................... 37 370 ------ ------- Total current provision ..................................................... 253 11,259 Deferred provision (credit)-- Federal ......................................................................... (17) (700) State ......................................................................... -- (155) Termination of S-corporation status ............................................. 3,900 -- ------ ------- Total deferred provision (credit)............................................. 3,883 (855) Total provision for income taxes ................................................. $4,136 $10,404 ====== =======
The reconciliation of income taxes computed using the statutory U.S. income tax rate and the provision for income taxes for the year ended December 31, 1997 follows:
December 31, 1997 (Dollars in Thousands) ------------------------------- Income taxes computed at the federal statutory rate................................. 35.0% $ 9,104 State income taxes, net of federal benefit......................................... 3.6% 924 Other, net.......................................................................... 1.4% 376 ---- ------- Provision for income taxes.......................................................... 40.0% $10,404 ---- =======
The Company's S-corporation status terminated in connection with the Company's initial public offering, thereby subjecting the Company's income to federal and state income taxes at the corporate level. Prior to the initial public offering, the Company elected Subchapter S-corporation status for income tax purposes. Accordingly, the income of the Company was reported on the individual income tax returns of its shareholders. The financial statements, therefore, do not include a provision for income taxes prior to the closing of the initial public offering. 30 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The reconciliation of income taxes computed using the statutory U.S. income tax rate and the provision for income taxes for the 15 day C-corporation period ended December 31, 1996 follows. Due to the S to C-corporation conversion, a reconciliation of the effective tax rate expressed in percentages is not meaningful for 1996.
December 31, 1996 (Dollars in Thousands) -------------------------- C-corporation income before taxes for the 15 day period ended December 31, 1996..... $ 413 Net taxable temporary differences................................................... 4 Current portion of S-corporation deferred revenue................................... 123 ------ Book taxable income as a C-corporation.............................................. 540 Income taxes computed at the federal statutory rate................................. 216 Provision for change in tax status to C-corporation................................. 3,900 Other, net.......................................................................... 20 ------ Provision for income taxes.......................................................... $4,136 ======
The components of the deferred tax assets and liabilities are as follows:
December 31, December 31, 1996 1997 ------------ ------------- (Dollars in Thousands) Deferred tax assets Allowance for doubtful accounts and employee advances....................... $ $ (304) Accrued vacation............................................................ -- (418) Foreign tax credit carryforward............................................. -- (225) Other....................................................................... -- (328) ------ ------- (1,275) ------ ------- Deferred tax liabilities S-corporation deferred revenue.............................................. 3,595 2,345 Other....................................................................... 288 686 ------ ------- Total deferred tax liability................................................. $3,883 $ 3,031 ====== ======= Net current liability........................................................ $1,200 $ 46 Net long-term liability...................................................... 2,683 1,710 ------ ------- $3,883 $ 1,756 ====== =======
The foreign tax credit carryforwards of $225,000 recognized as of December 31, 1997 expire during fiscal year 2002. 4. Revolving Credit Facility: The Company had a revolving credit facility with a bank. Borrowings under this arrangement were unsecured, were limited to $15.0 million, bore interest at LIBOR, (7.07 % at December 31, 1996), plus 1.0% or the prime rate (8.25% at December 31, 1996) and were payable upon demand. There were no borrowings outstanding under this arrangement as of December 31, 1996. Average outstanding borrowings under this arrangement were $1.4 million and $535,000 for the year ended December 31, 1996 and 1997, respectively. Effective May 30, 1997, the Company replaced the above mentioned revolving credit facility with a $25.0 million revolving credit facility with a bank (the "Facility"). The Facility bears interest at a rate equal to LIBOR plus 1.0% or prime at the Company's option and borrowings are unsecured. The Facility contains certain restrictive covenants and financial ratio requirements which would limit distributions to shareholders and additional borrowings. There were no borrowings outstanding under this arrangement as of December 31, 1997. Average outstanding borrowings under this arrangement were $489,000 for the year ended December 31, 1997. 31 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) As of December 31, 1996 and 1997, Mascot Systems had borrowings outstanding under revolving credit agreements with ICICI Banking Corporation Limited and IndusInd Bank Limited, both of India. Borrowings under these facilities are secured by deposits of the controlling shareholders of the Company. Of the $2.1 million and $1.7 million borrowed and outstanding under these agreements at December 31, 1996 and 1997, respectively, the following interest rates apply:
(Dollars in Thousands) December 31, 1996 December 31, 1997 - ------------------------------------------ --------------------------------------- Annual Interest Annual Interest Amount Borrowed Rate Amount Borrowed Rate $ 995 18.75% $1,484 16.35% 1,082 19.25% 237 19.25% ------ ------ $2,077 $1,721 ------ ======
These borrowings will be repaid by the Company upon approval by the government of India for the repatriation of such funds necessary to repay these obligations. 5. Related Party Transactions: As an S-corporation, the net income of the Company was attributed, for federal (and some state) income tax purposes, directly to the Company's shareholders rather than to the Company. During 1996 and 1997, the Company had from time to time paid the corresponding income taxes due on these amounts on behalf of the controlling shareholders in the form of interest-free advances which were later repaid. The highest aggregate amounts of advances outstanding to one of the controlling shareholders and his Qualified Subchapter S Trust during 1996 and 1997 were approximately $1,682,000 and $96,000, respectively. The highest aggregate amounts of advances outstanding to the other controlling shareholder and his Qualified Subchapter S Trust during 1996 and 1997 were approximately $1,682,000 and $158,000, respectively Mascot Systems leases from the controlling shareholders the office space for the offshore software development facilities in Bangalore, India. The acquisition of the real estate and the construction of this office building (but not the buildout of the office space) was financed entirely by the controlling shareholders out of personal funds. Specifically, Mascot Systems leases approximately 4,200 square feet of office space on one floor of an office building located in Bangalore which is owned by the controlling shareholders. The lease has a one-year term expiring in March 1998, and the rent is approximately $7,000 per year. Mascot Systems also leases a 30,000-square- foot office building located in Bangalore from the controlling shareholders. This lease has a five-year term expiring in October 2001, and the annual rent is approximately $110,000 per year. The offshore software development facilities located in Pune and Madras, India are scheduled to be operational sometime during the first quarter of 1998. Mascot Systems expects to enter into two additional leases with the controlling shareholders for these facilities. The facility in Pune is a 35,000-square-foot office building, and the facility in Madras is a 65,000-square-foot office building. See also Note 11. Scott Systems leases, for its training facilities, approximately 2,100 square feet of office space on one floor of an office building located in Mumbai (Bombay, India). The leased space is divided into five separately owned suites owned individually by the controlling shareholders. The leases have a one-year term expiring in April 1998, and the aggregate rent is $20,000 per year. Scott Systems also leases further office space of approximately 900 square feet on another floor in the same office building which is owned by the controlling shareholders. The lease has a one-year term expiring in October 1998, and the rent is $6,000 per year. Scott Systems also leases a portion of the Pune facility from the controlling shareholders. This lease covers 7,500 square feet and has a three year term expiring in September 2000. The rent is $26,000 per year. See also Note 11. The Company had loans outstanding from the Company's controlling shareholders of $16,000 and $0 as of December 31, 1996 and 1997, respectively. These loans are included in accounts payable in the consolidated balance sheets. 32 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 6. Commitments: The Company rents certain office facilities and equipment under noncancelable operating leases which provide for the following future minimum rental payments as of December 31, 1997:
(Dollars in Thousands) Period ending December 31 Amount 1998 $1,424 1999 1,216 2000 562 2001 2 Thereafter -- ------ Total $3,204 ======
Rental expense was approximately $500,000, $778,000 and $1,247,000 for the years ended December 31, 1995, 1996 and 1997, respectively. The Company has employment agreements with its controlling shareholders and certain of its executive officers which provide generally for specified minimum salaries and bonuses based upon the Company's performance. 7. Employee Benefit Plans: The Company sponsors a 401(k) benefit plan. Eligible employees, as defined in the plan, may contribute up to 15% of eligible compensation, as defined. The Company does not contribute to this plan. 8. Non-recurring Charges: In October 1996, the Company entered into an agreement with an executive pursuant to which the Company agreed to pay this individual, as compensation for past services, an amount equal to the value of 109,200 shares of Common Stock at the initial public offering price of $15 per share. One-half of this payment was made in cash, at the election of the executive, on December 16, 1996. The remaining half of this obligation was satisfied on December 16, 1996 via the issuance of 54,600 shares of restricted Common Stock, as described in Note 9. The Company has reflected the cash payment along with the applicable tax withholdings as a non-recurring charge in the accompanying consolidated statements of income for the year ended December 31, 1996. For the year ended December 31, 1997, the Company has reflected the amortization of deferred compensation for this same executive as a non-recurring charge in the accompanying consolidated statements of income. 9. Stock-Based Compensation and Restricted Stock Award: Effective December 16, 1996, the Company adopted the 1996 Stock Incentive Plan (the "Plan") for directors, executive management and key personnel. The Plan provides for the issuance of up to 2,160,000 stock-based incentive awards at the market value of the stock at the date of grant. The Company accounts for the Plan under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." Had compensation costs for the Plan been determined consistent with Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS No. 123), net income for the year ended December 31, 1996 would have been reduced by $12,000 and there would have been no impact on pro forma basic and diluted earnings per common share for the same period. For the year ended December 31, 1997, the impact of SFAS No. 123 would have reduced net income and basic and diluted earnings per share by approximately $1.3 million or $0.06 per share, respectively. 33 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) During 1996 and 1997, options covering a total of 845,550 and 410,050 shares, respectively, of Common Stock were granted under the Plan. Options expire 10 years from the date of grant or earlier if an option holder ceases to be employed by the Company for any reason. A summary of stock option activity follows:
December 31, 1997 December 31, 1996 ----------------------------- --------------------------- Weighted Average Weighted Average ---------------- Options ---------------- Options Exercise Price --------- Exercise Price Number of Shares ----------- ---------------- ---------------- - ---------------- Options outstanding, beginning of period.... 845,550 $15.00 -- -- Granted..................................... 410,050 $19.52 845,550 $15.00 Exercised................................... 128,800 $15.00 -- -- Lapsed and forfeited........................ 59,500 $15.00 -- -- --------- ------ ------- ------ Options outstanding, end of period.......... 1,067,300 $16.74 845,550 $15.00 --------- ------ ------- ------ Options exercisable, end of period.......... 106,032 $15.00 -- -- --------- ------ ------- ------
Stock options outstanding at December 31, 1997:
Options Outstanding Options Exercisable ---------------------------------------------------------- ----------------------- Weighted --------------- Range of Average Remaining Weighted Average Weighted -------- ----------------------- ---------------- -------- Exercise Prices Options Contractual Life (Years) Exercise Price Options Average - --------------- -------- ------------------------ -------------- ------- ------- Exercise Price -------------- $15.00 703,800 9.24 $15.00 106,032 $15.00 $16.13 55,000 9.44 $16.13 -- -- $18.00 225,000 9.67 $18.00 -- -- $24.38 35,000 9.81 $24.38 -- -- $26.00 3,500 9.85 $26.00 -- -- $31.38 25,000 10.00 $31.38 -- -- $31.75 2,000 9.99 $31.75 -- -- $32.25 18,000 9.99 $32.25 -- -- --------- ----- ------ ------- -------------- 1,067,300 9.39 $16.74 106,032 $15.00 ========= ===== ====== ======= ==============
Stock options outstanding at December 31, 1996:
Options Outstanding Options Exercisable ---------------------------------------------------------- ----------------------- Weighted --------------- Range of Average Remaining Weighted Average Weighted Average -------- ----------------------- ---------------- --------------- Exercise Prices Options Contractual Life (Years) Exercise Price Options Exercise Price - --------------- -------- ------------------------ -------------- ------- -------------- $15.00 845,550 10.00 $15.00 -- --
Stock Option Price Summary of Stock Options Weighted average fair value of options granted during 1996*....... $5.86 ===== Weighted average fair value of options granted during 1997*....... $5.20 =====
34 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) *The fair value of each option granted is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions:
1996 1997 Risk free interest rate........................................ 6.2% 6.5% Expected dividend yield........................................ 0.0% 0.0% Expected life of options....................................... 6 yrs. 5 yrs. Expected volatility rate....................................... 24.5% 33.0%
There were 1,314,450 and 963,900 reserved for future grants under the 1996 Stock Option Plan at December 31, 1996 and 1997, respectively. Effective December 16, 1996, the Company entered into an employment agreement with an executive that included the granting of 54,600 shares of restricted common stock. During the restricted period (from December 16, 1996 to June 30, 1998), the restricted stock vests ratably and daily. The agreement provides for partial awards and forfeitures under various circumstances. At December 31, 1996 and 1997, the Company's consolidated balance sheet reflects deferred compensation of $776,000 and $258,000, respectively, related to this award, as an offset to shareholders' equity. Compensation expense of $43,000 and $518,000 related to the vesting of restricted shares during 1996 and 1997, respectively, has been recorded in the Company's consolidated income statement. 10. Earnings per Common Share: In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, "Earnings per Share" (SFAS No. 128), which establishes new standards for computing and presenting earnings per share. SFAS No. 128 is effective for financial statements issued for periods ending after December 15, 1997, including interim periods. The Company adopted SFAS No. 128 during 1997. Earnings per share for the pro forma periods were not impacted by the adoption of SFAS No. 128. Basic pro forma net income per common share and earnings per common share is calculated by dividing pro forma net income and net income, respectively, by the weighted average number of common shares outstanding during the year. Diluted pro forma net income per common share and earnings per common share is calculated by dividing pro forma net income and net income, respectively, by the weighted average number of shares of common stock outstanding adjusted for the assumed conversion of all dilutive securities. The 1996 diluted shares outstanding, as calculated below, also includes 393,462 common shares, which represents the number of shares, when multiplied by the initial public offering price, would have been sufficient to replace the capital in excess of earnings withdrawn as dividends during the period. 35 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The following table sets forth the computation of earnings per share for the periods indicated:
(Dollars in thousands, except per share data) Year ended December 31, ---------------------------------------------------------------------- 1995 1996 1997 (Pro forma) (Pro forma) Basic earnings per share Net income $ 11,038 $ 3,777 $ 15,606 Divided by: Weighted average common shares 18,254,600 18,787,062 21,814,014 ----------- ----------- ----------- Basic earnings per share $0.60 $0.20 $0.72 ===== ===== ===== Diluted earnings per share Net income $ 11,038 $ 3,777 $ 15,606 Divided by the sum of: Weighted average common shares 18,254,600 18,787,062 21,814,014 Dilutive effect of common stock equivalents 3,200 235,753 ----------- ----------- ----------- Diluted average common shares 18,254,600 18,790,262 22,049,767 ----------- ----------- ----------- Diluted earnings per share $0.60 $0.20 $0.71 ===== ===== =====
11. Business Acquisitions: In December 1997, the Company acquired Asia Pacific Computer Consultants Pty Limited (Asia Pacific), a Sydney, Australia-based information technology and telecommunications (IT & T) services provider. Asia Pacific was merged with Mastech's existing Australia operations and became a Mastech subsidiary, Mastech Asia-Pacific. In addition to an initial payment, a contingent future payment, if required, will be made in accordance with a calculation involving the earnings before interest of Asia Pacific, as defined, for each of the years ended December 31, 1998 and 1999. 12. S-Corporation Dividend: In December 1996, the Company's Board of Directors declared an S-corporation dividend to former S-corporation shareholders in an aggregate amount representing the estimated amount of all undistributed earnings of the Company taxed or taxable to its shareholders through December 16, 1996 (the "S-corporation Dividend"). The S-corporation Dividend is recorded in the accompanying consolidated balance sheets at December 31, 1996 in the amount of $6.5 million. The S-corporation Dividend was paid in the amount of $6.3 million in 1997 with the difference being recognized as an increase in additional paid- in capital as shown in the accompanying consolidated statements of shareholders' equity. 36 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 13. Business Segment Information: The Company is predominantly engaged in providing information technology services to large organizations. The following is information about the Company's operations by geographical area.
December 31 - ----------------------------------------------------------------------------------------------------------- (Dollars in Thousands) 1995 1996 1997 - ----------------------------------------------------------------------------------------------------------- Revenues- United States $102,248 $112,308 $168,357 Foreign (including inter-geographic revenues of $565, $1,706 and $4,825 for the years 1995, 1996 and 1997, respectively) 1,993 12,798 32,435 Adjustments and eliminations (565) (1,706) (4,825) - ----------------------------------------------------------------------------------------------------------- Consolidated $103,676 $123,400 $195,967 =========================================================================================================== Operating Income (Loss)- United States $ 18,713 $ 11,554 $ 21,232 Foreign (454) 1,320 3,364 -------- -------- -------- Consolidated 18,259 12,874 24,596 - ----------------------------------------------------------------------------------------------------------- Other income (expenses), net, including interest and general corporate expenses 137 (46) 1,414 - ----------------------------------------------------------------------------------------------------------- Income before income taxes $ 18,396 $ 12,828 $ 26,010 =========================================================================================================== Identifiable assets- United States $ 24,780 $ 74,146 $129,817 Foreign 974 3,363 19,657 - ----------------------------------------------------------------------------------------------------------- Consolidated $ 25,754 $ 77,509 $149,474 - -----------------------------------------------------------------------------------------------------------
During 1997, approximately 29% of the Company's revenues were derived from its top five clients. The Company's largest client accounted for approximately 13% of the Company's revenues for the year ended December 31, 1997. The Company derives no revenue from export activity. 37 MASTECH CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) 14. Quarterly Financial Information (Unaudited):
Three Months Ended --------------------------------------------- Mar. 31, June 30, Sept. 30, Dec. 31, (Dollars in thousands, except per share data) 1995 Revenues............................................. $24,107 $25,153 $26,896 $27,520 Gross profit......................................... 7,196 7,650 7,548 8,868 Income from operations............................... 4,484 4,664 4,280 4,831 Net income........................................... $ 4,519 $ 4,696 $ 4,303 $ 4,878 ======= ======= ======= ======= Pro forma net income................................. $ 2,712 $ 2,817 $ 2,582 $ 2,927 Pro forma basic and diluted earnings per common share.................................. $ 0.15 $ 0.15 $ 0.14 $ 0.16 1996 Revenues............................................. $28,595 $30,804 $30,937 $33,064 Gross profit......................................... 8,107 8,919 7,752 9,169 Income from operations............................... 3,405 4,227 2,476 2,766 Net income (loss).................................... $ 3,429 $ 4,257 $ 2,401 $(1,395) ======= ======= ======= ======= Pro forma net income (loss).......................... $ 2,059 $ 2,553 $ 1,440 $(2,275) Pro forma basic and diluted earnings (loss) per common share.................................. $ 0.11 $ 0.14 $ 0.08 $ (0.12) 1997 Revenues............................................. $37,531 $45,059 $53,231 $60,146 Gross profit......................................... 10,799 13,423 16,891 19,705 Income from operations............................... 3,384 5,348 7,364 8,500 Income before income taxes........................... 3,848 5,714 7,568 8,880 Provision for income taxes........................... 1,539 2,286 3,027 3,552 Net income........................................... $ 2,309 $ 3,428 $ 4,541 $ 5,328 ======= ======= ======= ======= Basic and diluted earnings per common share.......... $ 0.11 $ 0.16 $ 0.21 $ 0.24
ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE: Not applicable 38 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT: The information required by this item is incorporated by reference from the information under the caption "Management and Directors" in the Company's definitive proxy statement to be filed. ITEM 11. EXECUTIVE COMPENSATION: The information required by this item is incorporated by reference from the information under the caption "Executive Compensation" in the Company's definitive proxy statement to be filed provided that the information in such proxy statement under the captions "Performance Graph" and "Compensation Committee Report on Executive Compensation" should not be incorporated by reference herein. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT: The information required by this item is incorporated by reference from the information under the caption "Security Ownership of Certain Beneficial Owners and Management" in the Company's definitive proxy statement to be filed. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS: The information required by this item is incorporated by reference from the information under the caption "Certain Transactions" in the Company's definitive proxy statement to be filed. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) 1. Financial Statements -------------------- The following consolidated financial statements of the registrant and its subsidiaries are included on pages 22 to 38 and the report of independent public accountants is included on page 22 in this Form 10-K. Report of Independent Public Accountants. Consolidated Balance Sheets- December 31, 1996 and 1997. Consolidated Income Statements- Years ended December 31, 1995, 1996 and 1997. Consolidated Statements of Shareholders' Equity- Years ended December 31, 1995, 1996 and 1997. Consolidated Statements of Cash Flows- Years ended December 31, 1995, 1996 and 1997. Notes to Consolidated Financial Statements 2. Consolidated Financial Statement Schedules ------------------------------------------ The following consolidated financial statement schedules shown below should be read in conjunction with the consolidated financial statements on pages 23 to 38 in this Form 10-K. All other schedules are omitted because they are not applicable or the required information is shown in the financial statements or Notes thereto. The following items appear immediately following the signature pages: Report of Independent Public Accountants on Consolidated Financial Statement Schedules. Financial Statement Schedules: Schedule II-Valuation and Qualifying Accounts for the three years ended December 31, 1997. Financial Data Schedules 3. Exhibits -------- Exhibits required by Item 601 of Regulation S-K are listed in the Exhibit Index, which is incorporated herein by reference. (b) Reports on Form 8-K: Not applicable 39 EXHIBIT INDEX - -------------
Sequentially ----------- Exhibit No. Description of Exhibit Numbered - ------------ ---------------------- --------- Page ---- 3.1 - Articles of Incorporation of the Company are incorporated by reference from Exhibit 3.1 to Mastech N/A Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 3.2 - Bylaws of the Company are incorporated by reference from Exhibit 3.2 to Mastech Corporation's N/A Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 4.1 - Form of certificate representing the Common Stock of the Company is incorporated by reference from N/A Exhibit 4.1 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.1 - Form of Employment Agreement by and between the Company and Sunil Wadhwani and Ashok Trivedi is N/A incorporated by reference from Exhibit 10.1 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996.* 10.2 - 1996 Stock Incentive Plan is incorporated by reference from Exhibit 10.2 to Mastech Corporation's N/A Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996.* 10.3 - Agreement dated October 14, 1996 between Mastech Systems Corporation (f/k/a Mastech Corporation) N/A and Steven Shangold, as amended by Addendum dated as of November 18, 1996, is incorporated by reference from Exhibit 10.3 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996.* 10.4 - Form of Employment Agreement by and between the Company and each of its Executive Officers is N/A incorporated by reference from Exhibit 10.4 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on December 16, 1996.* 10.5 - Shareholders Agreement by and among the Company, Sunil Wadhwani and Ashok Trivedi and the Joinder N/A Agreement by Grantor Retained Annuity Trusts established by Messrs. Wadhwani and Trivedi are incorporated by reference from Exhibit 10.5 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on December 16, 1996. 10.10 - Lease Agreement dated January 15, 1995 by and between Mascot Systems Private Limited and Messrs. N/A Wadhwani and Trivedi for real estate in Bangalore, India is incorporated by reference from Exhibit 10.10 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.11 - Lease Agreement dated November 6, 1996 by and between Mascot Systems Private Limited and Messrs. N/A Wadhwani and Trivedi for real estate in Bangalore, India is incorporated by reference from Exhibit 10.11 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.12 - Lease Agreement dated April 1, 1996 by and between Scott Systems Private Limited and Messrs. N/A Wadhwani and Trivedi for real estate in Bombay, India is incorporated by reference from Exhibit 10.12 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.13 - Lease Agreement dated April 1, 1996 by and between Scott Systems Private Limited and Sunil Wadhwani N/A for real estate in Bombay, India is incorporated by reference from Exhibit 10.13 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.14 - Lease Agreement dated April 1, 1996 by and between Scott Systems Private Limited and Ashok Trivedi N/A for real estate in Bombay, India is incorporated by reference from Exhibit 10.14 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996.
40
Sequentially ----------- Exhibit No. Description of Exhibit Numbered - ------------ ---------------------- --------- Page ---- 10.15 - Stock Purchase Agreement by and between the Company and Messrs. Wadhwani and Trivedi for their N/A shares of Mascot Systems Private Limited (incorporated by reference to Exhibit 10.15 on Form S-1 of Mastech Corporation, Commission File No. 333-14169, filed on November 19, 1996). 10.16 - Agreement and Plan of Merger by and between the Company and SWAT Systems is incorporated by N/A reference from Exhibit 10.15 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.17 - Form of S corporation Revocation, Tax Allocation and Indemnification Agreement is incorporated by N/A reference from Exhibit 10.17 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.18 - Loan and Security Agreement dated July 1993 between the Company and PNC Bank, as amended, by N/A amendments dated August 1994, November 1994, June 1995 and June 1996 is incorporated by reference from Exhibit 10.18 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.19 - Sublease Agreement dated February 10, 1995 by and between Westinghouse Electric Corporation and N/A the Company for the Company's Oakdale, PA headquarters, as amended by amendment dated March 20, 1996 is incorporated by reference from Exhibit 10.19 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on November 19, 1996. 10.21 - Form of Capital Contribution Agreement by and among the Company, Sunil Wadhwani, Ashok Trivedi and N/A their respective family trusts is incorporated by reference from Exhibit 10.21 to Mastech Corporation's Registration Statement on Form S-1, Commission File No. 333-14169, filed on December 16, 1996. 21.0 - Subsidiaries of Registrant 23.0 - Valuation and Qualifying Accounts (All others are inapplicable) 44 24.1 - Form of Power of Attorney to be executed by the outside directors granting the persons named 42 therein the power to execute this report on their behalf 27.1 - Financial Data Schedule 45 * Management compensatory plan or arrangement
41 EX-23 2 REPORT OF ACCOUNTANTS EXHIBIT 23. REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE To the Board of Directors and Shareholders of Mastech Corporation: We have audited, in accordance with generally accepted auditing standards, the consolidated financial statements included in this Form 10-K, and have issued our report thereon dated February 4, 1998. Our audits were made for the purpose of forming an opinion on those basic financial statements taken as a whole. The schedule listed in the index in Item 14(a) 2 of the Form 10-K is the responsibility of the Company's management and is presented for purposes of complying with the Securities and Exchange Commission's rules and is not a part of the basic financial statements. The schedule has been subjected to the auditing procedures applied in the audits of the basic financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. ARTHUR ANDERSEN LLP Pittsburgh, Pennsylvania February 4, 1998. MASTECH CORPORATION SCHEDULE II- VALUATION AND QUALIFYING ACCOUNTS (Dollars in Thousands)
Deductions- Balance at Charged to Amounts Balance at Beginning of Costs and Deemed to be End of Period Ended Description Period Expenses Uncollectible Period December 31, 1995 Allowance for uncollectible accounts $300 302 (102) $ 500 December 31, 1996 Allowance for uncollectible accounts $500 299 (124) $ 675 December 31, 1997 Allowance for uncollectible accounts $675 995 (630) $1,040
EX-24.1 3 POWER OF ATTORNEY EXHIBIT 24.1 FORM OF POWER OF ATTORNEY Know all by these presents, that the undersigned hereby constitutes and appoints each of Sunil Wadhwani, Ashok Trivedi and Jeffrey McCandless, as the undersigned's true and lawful attorney-in-fact to: (1) execute for and on behalf of the undersigned, in the undersigned's capacity as a director and/or officer of Mastech Corporation ("the Company"), any and all necessary and/or appropriate forms, agreements and schedules to be filed with the Securities and Exchange Commission and the NASDAQ Stock Market or any similar authority or regulatory body, as the same shall be required pursuant to Section 13 of the Securities Exchange Act of 1934, ("the Exchange Act") and the corresponding rules thereunder, including without limitation, the Company's Annual Report on Form 10-K for the year ended December 31, 1997; and (2) take any other action of any type whatsoever in connection with the foregoing which, in the opinion of such attorney-in-fact, may be of benefit to, in the best interest of, or legally required by, the undersigned; it being understood that the documents executed by such attorney-in-fact on behalf of the undersigned pursuant to this Power of Attorney shall be in such form and shall contain such terms and conditions as such attorney-in-fact may approve in such attorney-in-fact's discretion. The undersigned hereby grants to each such attorney-in-fact full power and authority to do and perform any and every act and thing whatsoever required, necessary, or proper to be done in connection with the filing of documents under Section 13 of the Exchange Act as fully to all intents and purposes as the undersigned might or could do if personally present, with full power of substitution or revocation, hereby ratifying and confirming all that such attorney-in-fact, or such attorney-in-fact's substitute or substitutes, shall lawfully do or cause to be done by virtue of this Power of Attorney and the rights and powers herein granted. This Power of Attorney shall remain in full force and effect until the later of such time as the annual meeting of the Company's shareholders is called to order on _____________, or unless earlier revoked by the undersigned in a signed writing delivered to the foregoing attorney-in-fact. IN WITNESS WHEREOF, the undersigned has caused this Power of Attorney to be executed as of this _______ day of _______________. ________________________ Signature _________________________ Print Name Signatures - ---------- Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized: Mastech Corporation /s/ Sunil Wadhwani ------------------ Sunil Wadhwani Co-Chairman and Chief Executive Officer Dated March 13, 1998 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the registrant and in the capacities and on the dates indicated.
Signature Title Date --------- ----- ---- /s/ Sunil Wadhwani Co-Chairman, Chief Executive and March 13, 1998 - --------------------------------------- Director (principal executive officer) Sunil Wadhwani /s/ Ashok Trivedi Co-Chairman, President and Director March 13, 1998 - --------------------------------------- Ashok Trivedi /s/ Jeffrey McCandless Vice President- Finance March 13, 1998 - --------------------------------------- (principal financial officer) Jeffrey McCandless /s/ Neil M. Ebner Corporate Controller March 13, 1998 - --------------------------------------- (principal accounting officer) Neil M. Ebner Ed Yourdon* Director March 13, 1998 J. Gordon Garrett* Director March 13, 1998 Michel Berty* Director March 13, 1998
* The undersigned attorney-in-fact, by signing his name below, does hereby sign this report on behalf of the above named directors pursuant to the powers of attorney executed by such persons and filed with the Securities and Exchange Commission contemporaneously herewith. /s/ Sunil Wadhwani ------------------ Sunil Wadhwani Co-Chairman, Chief Executive Attorney-in-fact EX-27 4 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED FINANCIAL STATEMENTS INCLUDED IN THE FORM 10-K AND IS QUALIFIED IN ITS ENTIRETY TO REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 YEAR 3-MOS DEC-31-1997 DEC-31-1997 JAN-01-1997 OCT-01-1997 DEC-31-1997 DEC-31-1997 82,408 82,408 0 0 52,960 52,960 1,040 1,040 0 0 139,243 139,243 10,080 10,080 1,772 1,772 149,474 149,474 27,251 27,251 0 0 0 0 0 0 236 236 120,277 120,277 149,474 149,474 195,967 60,146 195,967 60,146 135,149 40,441 169,957 41,646 518 130 995 549 (1,414) (380) 26,010 8,880 10,404 3,552 15,606 5,328 0 0 0 0 0 0 15,606 5,328 0.72 0.24 0.71 0.24
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