-----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, EB0iae30LuHbtv5M0dIDqaZjGEst3Gwyo3GcUaI6C7k5O2PK9J8hG717OErioHDK ibo3uUUKC7yBRxjQcIf2cQ== 0000912057-99-006619.txt : 19991118 0000912057-99-006619.hdr.sgml : 19991118 ACCESSION NUMBER: 0000912057-99-006619 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990930 FILED AS OF DATE: 19991117 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CONDOR TECHNOLOGY SOLUTIONS INC CENTRAL INDEX KEY: 0001042799 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROCESSING & DATA PREPARATION [7374] IRS NUMBER: 541814931 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-23635 FILM NUMBER: 99759750 BUSINESS ADDRESS: STREET 1: 170 FENNIFER ROAD STREET 2: SUITE 325 CITY: ANNAPOLIS STATE: MD ZIP: 21401 BUSINESS PHONE: 7038473290 MAIL ADDRESS: STREET 1: 1650 TYSONS BLVD STREET 2: STE 600 CITY: MCLEAN STATE: VA ZIP: 22102 FORMER COMPANY: FORMER CONFORMED NAME: CONDOR TECHNOLOGY GRP INC DATE OF NAME CHANGE: 19971014 FORMER COMPANY: FORMER CONFORMED NAME: CONDOR TECHNOLOGY GRP DATE OF NAME CHANGE: 19971003 FORMER COMPANY: FORMER CONFORMED NAME: CONDOR TECHNOLOGY GROUP INC/ FA DATE OF NAME CHANGE: 19970722 10-Q 1 FORM 10-Q - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. COMMISSION FILE NO. 0-23635 CONDOR TECHNOLOGY SOLUTIONS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 54-1814931 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 170 JENNIFER ROAD, SUITE 325, ANNAPOLIS, MARYLAND 21401 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (410) 266-8700 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES X NO ---- ---- INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE.
OUTSTANDING AS OF CLASS NOVEMBER 10, 1999 ----- ----------------- COMMON STOCK , $.01 PAR VALUE 15,106,981 ----------
- ------------------------------------------------------------------------------- CONDOR TECHNOLOGY SOLUTIONS, INC. INDEX TO FORM 10-Q
Page No. -------- Part I. FINANCIAL INFORMATION Item 1. FINANCIAL STATEMENTS Consolidated Balance Sheets................................................................1 Consolidated Statements of Operations......................................................2 Consolidated Condensed Statements of Cash Flows............................................3 Notes to Consolidated Financial Statements..............................................4-12 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.................................................13-19 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK......................................................................20 Part II. OTHER INFORMATION Item 1. LEGAL PROCEEDINGS.........................................................................21 Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS ................................................22 Item 3. DEFAULTS UPON SENIOR SECURITIES...........................................................22 Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.......................................22 Item 5. OTHER INFORMATION.........................................................................22 Item 6. EXHIBITS AND REPORTS ON FORM 8-K..........................................................22 SIGNATURES..................................................................................................23 EXHIBIT INDEX...............................................................................................24
PART I - FINANCIAL INFORMATION ITEM 1 - FINANCIAL STATEMENTS CONDOR TECHNOLOGY SOLUTIONS, INC. CONSOLIDATED BALANCE SHEETS (in thousands, except share data)
DECEMBER 31, SEPTEMBER 30, 1998 1999 ------------ ------------- (unaudited) ASSETS CURRENT ASSETS: Cash and cash equivalents $ 3,053 $ 4,935 Restricted cash 2,756 2,575 Accounts receivable, net 39,814 32,565 Prepaids and other current assets 3,284 6,841 --------- --------- Total current assets 48,907 46,916 PROPERTY AND EQUIPMENT, NET 4,329 8,010 GOODWILL AND OTHER INTANGIBLES, NET 145,163 121,441 OTHER ASSETS 2,243 2,497 --------- --------- TOTAL ASSETS $ 200,642 $ 178,864 ========= ========= LIABILITIES AND STOCKHOLDERS EQUITY CURRENT LIABILITIES: Accounts payable $ 13,838 $ 8,202 Accrued expenses and other current liabilities 16,524 15,320 Deferred revenue 4,915 5,371 Current portion of contingent purchase liability 4,308 2,388 Current portion of long-term debt 442 47,372 --------- --------- Total current liabilities 40,027 78,653 LONG-TERM DEBT 24,296 203 NON-CURRENT CONTINGENT PURCHASE LIABILITY 20,348 7,912 OTHER LONG-TERM OBLIGATIONS 1,929 1,335 --------- --------- Total liabilities 86,600 88,103 --------- --------- COMMITMENTS AND CONTINGENCIES -- -- STOCKHOLDERS EQUITY: Preferred stock, $.01 par, 1,000,000 authorized; none outstanding -- -- Common stock, $.01 par value; authorized 49,000,000 shares; issued and outstanding, 12,009,608 shares at December 31, 1998 and 15,050,807 shares at September 30, 1999 120 151 Additional paid-in capital 111,278 121,863 Retained earnings (Accumulated deficit) 2,818 (30,965) Other comprehensive income (loss) 20 (94) Treasury stock, at cost (13,178 shares) (194) (194) --------- --------- Total stockholders equity 114,042 90,761 --------- --------- TOTAL LIABILITIES AND STOCKHOLDERS EQUITY $ 200,642 $ 178,864 ========= =========
The accompanying notes are an integral part of these consolidated financial statements. 1 CONDOR TECHNOLOGY SOLUTIONS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share amounts)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, 1998 1999 1998 1999 --------- -------- -------- -------- (unaudited) (unaudited) IT service revenues $ 27,345 $ 33,018 $ 59,369 $ 108,072 Hardware procurement revenues 17,662 16,435 54,989 54,515 --------- --------- --------- --------- Total revenues 45,007 49,453 114,358 162,587 --------- --------- --------- --------- Cost of IT services 13,109 20,118 28,680 63,018 Cost of hardware procurement 15,771 14,663 49,814 49,042 --------- --------- --------- --------- Total cost of revenues 28,880 34,781 78,494 112,060 --------- --------- --------- --------- Gross profit 16,127 14,672 35,864 50,527 Selling, general and administrative expenses 9,272 12,969 22,124 38,780 Depreciation and amortization 1,310 1,830 3,125 6,322 In process research and development -- -- 5,000 -- Impairment of intangible assets and loss on sale of assets to be disposed of -- 1,500 -- 30,736 Other costs -- 1,535 -- 3,953 --------- --------- --------- --------- Income (loss) from operations 5,545 (3,162) 5,615 (29,264) Interest and other income (expense) (36) (2,676) 560 (4,092) --------- --------- --------- --------- Income (loss) before extraordinary item and income taxes 5,509 (5,838) 6,175 (33,356) Income tax expense (benefit) 2,507 (1,511) 4,152 243 --------- --------- --------- --------- Net income (loss) before extraordinary item 3,002 (4,327) 2,023 (33,599) Extraordinary loss, net of income taxes of $122 -- -- -- (184) --------- --------- --------- --------- Net income (loss) $ 3,002 $ (4,327) $ 2,023 $ (33,783) ========= ========= ========= ========= Net income (loss) per share from continuing operations - Basic $ 0.27 $ (0.31) $ 0.21 $ (2.59) ========= ========= ========= ========= Net income (loss) per share from continuing operations - Diluted $ 0.26 $ (0.31) $ 0.20 $ (2.59) ========= ========= ========= ========= Net income (loss) per share from extraordinary item - Basic & Diluted $ -- $ -- $ -- $ (0.01) ========= ========= ========= ========= Net income (loss) per share - Basic $ 0.27 $ (0.31) $ 0.21 $ (2.60) ========= ========= ========= ========= Net income (loss) per share - Diluted $ 0.26 $ (0.31) $ 0.20 $ (2.60) ========= ========= ========= ========= Basic shares outstanding 11,198 13,840 9,779 12,954 ========= ========= ========= ========= Diluted shares outstanding 11,596 13,840 9,950 12,954 ========= ========= ========= =========
The accompanying notes are an integral part of these consolidated financial statements. 2 CONDOR TECHNOLOGY SOLUTIONS, INC. CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
NINE MONTHS ENDED SEPTEMBER 30, 1998 1999 ------------- -------------- (UNAUDITED) CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss) $ 2,023 $ (33,783) Adjustments to reconcile net loss to net cash provided by (used in) operating activities: Research and development charge 5,000 - Impairment of intangible assets and loss on sale of assets to be disposed of - 30,736 Writeoff of deferred financing costs - 1,617 Depreciation and amortization 3,125 6,322 Deferred income taxes (992) - Changes in assets and liabilities (4,112) (7,514) ------------- -------------- Net cash provided by (used in) operating activities 5,044 (2,622) ------------- -------------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment (2,026) (4,232) Sale of short term investments, net 1,046 8 Payment for technology license (1,550) - Acquisition of subsidiaries, net of cash (65,729) (5,227) Payment of contingent purchase liability - (7,000) Other (487) 188 ------------- -------------- Net cash used in investing activities (68,746) (16,263) ------------- -------------- CASH FLOWS FROM FINANCING ACTIVITIES: Borrowings (payments) on debt, net (1,723) 22,462 Proceeds from initial public offering 72,926 - Purchase of treasury shares (194) - Deferred financing costs (445) (1,762) ------------- -------------- Net cash provided by financing activities 70,564 20,700 ------------- -------------- EFFECT OF EXCHANGE RATE CHANGES (3) (114) NET INCREASE IN CASH AND CASH EQUIVALENTS AND RESTRICTED CASH 6,859 1,701 CASH AND CASH EQUIVALENTS AND RESTRICTED CASH, BEGINNING OF PERIOD 26 5,809 ------------- -------------- CASH AND CASH EQUIVALENTS AND RESTRICTED CASH, END OF PERIOD $ 6,885 $ 7,510 ============= ==============
The accompanying notes are an integral part of these consolidated financial statements. 3 CONDOR TECHNOLOGY SOLUTIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Condor Technology Solutions, Inc., a Delaware corporation ("Condor" or the "Company"), was founded in August 1996. The Company is an enterprise portal and e-commerce solutions provider of strategic information technology ("IT") business solutions to middle market companies, Fortune 1000 firms and government agencies. In order to become an end-to-end provider of a wide range of IT services and solutions, Condor entered into agreements (the "Mergers") to acquire all of the outstanding stock of eight established IT service providers (the "Founding Companies") and concurrently completed an initial public offering (the "Offering") of its common stock (the "Common Stock"). On February 5, 1998 and February 10, 1998, respectively, the Offering and the Mergers were completed. Since February 10, 1998, the Company has acquired seven additional IT service providers. The Founding Companies along with the additional acquisitions are referred to herein as "operating companies". All acquisitions have been accounted for using the purchase method of accounting and are reflected as of their respective acquisition dates. The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial reporting and Securities and Exchange Commission regulations. Certain information and footnote disclosures normally included in the financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, the financial statements reflect all adjustments (of a normal and recurring nature) which are necessary to present fairly the financial position, results of operations and cash flows for the interim periods. The results for the three and nine months ended September 30, 1999 are not necessarily indicative of the results that may be expected for the year ending December 31, 1999. The financial statements should be read in conjunction with the Company's audited consolidated financial statements included in the Company's most recently filed Form 10-K. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES For a description of the Company's accounting policies, refer to the Notes to the Financial Statements of the Company included in the Company's most recently filed Form 10-K. The following addition to the accounting policies of the Company during the periods presented is: LONG-LIVED ASSETS Statement of Financial Accounting Standards No. 121 ("SFAS 121"), "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of," requires impairment losses to be recorded on long-lived assets used in operations when indications of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets' carrying amount. The Company will review long-lived assets for impairment when one or more of the following events have occurred: a. Current or immediate (future twelve months) short-term projected cash flows are significantly less than the most recent historical cash flows. b. Loss of or scheduled completion of a major positive cash flow generating contract in the next six months without the realistic expectation of sufficient contract replacement within six-to-nine months. 4 c. A significant, extraordinary loss of billable professionals without the realistic expectation of an in-kind replacement within three months. d. The unplanned departure of the original founder of an acquired entity, where the founder is critical to large customer relationship(s) and/or development and maintenance of existing technology. e. A significant adverse change in legal factors or in the business climate that could affect the value of the goodwill or other long-lived assets or an adverse action or assessment by a regulator. f. Significant adverse changes in technology that could affect the Company's ability to win contracts or result in termination of existing contracts. As of September 30, 1999, the Company has recorded impairment losses related to a portion of the Company's goodwill and other intangibles balance (see notes 8 and 9). (3) ACQUISITIONS ACQUISITIONS On April 1, 1999, the Company acquired the outstanding ownership interests of Titan Technologies Group, LLC ("Titan"), a New Jersey based company which provides enterprise resource planning services and software for middle market companies in the Northeast. The initial purchase price was $9.0 million comprised of $6.8 million in cash and 245,264 shares of Common Stock. The Company has accounted for this transaction as a purchase business combination. The excess of the purchase price over the fair values of the net assets acquired has been recorded as goodwill, which will be amortized on a straight-line basis over 35 years. The purchase agreement also contains additional payments contingent on the future earnings performance of Titan. Any additional payments made when the contingency is resolved will be accounted for as goodwill and will be amortized over the remaining estimated life of such goodwill. On February 15, 1999, the Company acquired 48% of the ownership interests of Dimensional Systems LLC ("Dimensional"), a Cambridge, Massachusetts consulting firm which is focusing on the development of a decision support lab. The initial purchase price was $240,000 comprised of $120,000 in cash and 10,703 shares of Common Stock. The Company accounted for this investment using the equity method until September 30, 1999 when it exercised its option to purchase the remaining 52% of Dimensional for an additional purchase price of $260,000 comprised of $130,000 in cash and 51,418 shares of Common Stock. The Company accounted for the purchase on September 30, 1999 as a purchase business combination. The excess of the purchase price over the fair values of the net assets acquired has been recorded as goodwill, which will be amortized on a straight-line basis over 10 years. CONTINGENT PURCHASE LIABILITY Pursuant to contingent payment agreements entered into as part of the acquisitions of the operating companies, the Company paid $7 million in cash and $7.5 million of Common Stock (1,251,689 shares) related to accrued contingent consideration as of September 30, 1999. At September 30, 1999, approximately $2.9 and $7.4 million in cash and stock, respectively, of contingent consideration was accrued, which will be paid in 2000 and 2001 in accordance with the original purchase agreements. 5 PRO FORMA RESULTS The results of operations of the operating companies have been reflected in the financial statements as of their respective acquisition dates. The following table reflects unaudited pro forma combined results of operations of the operating companies on the basis that the acquisitions of all of the operating companies had taken place at the beginning of the earliest period presented:
NINE MONTHS ENDED SEPTEMBER 30, ------------------------------------- 1998 1999 ------------------ ------------------ (in thousands, except per share amounts) Revenues $171,866 $164,734 Net income (loss) before extraordinary item 6,978 (34,122) Net income (loss) 6,978 (34,306) Net income (loss) per share before extraordinary item - Basic $ 0.57 $ (2.61) Net income (loss) per share before extraordinary item - Diluted $ 0.56 $ (2.61) Net income (loss) per share - Basic $ 0.57 $ (2.62) Net income (loss) per share - Diluted $ 0.56 $ (2.62)
The unaudited pro forma amounts reflect the results of operations for all of the operating companies as well as the following purchase accounting adjustments for the periods presented: reductions in salaries, bonuses, profit sharing and other benefits to the stockholders of the operating companies to which they have agreed prospectively; interest on assumed borrowings; 1998 reduction of $5 million for in-process research and development, elimination of revenues and cost of revenues on transactions between operating companies occurring prior to the acquisition by the Company; amortization of goodwill recorded as a result of the acquisitions; income taxes on S-corporation income; and the estimated income tax effect on the pro forma adjustments. Total pro forma adjustments included as of September 30, 1998 and 1999 were approximately $6.7 million and $150,000, respectively, and resulted in a net increase to net income. The unaudited pro forma combined results of operations may not be comparable to and may not be indicative of the actual results that would have occurred had the acquisitions been consummated at the beginning of the periods presented or of future operations of the combined companies because the companies were not under common control or management and had different tax and capital structures during the periods presented. (4) EARNINGS PER SHARE The Company calculates earnings per share on both a basic and diluted basis. Dilutive securities are excluded from the computation in periods which they have an anti-dilutive effect. Net income available to common stockholders and common equivalent stockholders is equal to net income for all periods presented. 6 The following table represents reconciliations between the weighted average common stock outstanding used in basic earnings per share and the weighted average common and common equivalent shares outstanding used in diluted earnings per share for each of the periods presented:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, -------------------------- --------------------------- 1998 1999 1998 1999 ----------- ----------- ------------ ----------- (in thousands) Weighted average common stock outstanding 11,198 13,840 9,779 12,954 Stock options, as if converted outstanding 5 - 39 - Contingent purchase price adjustment 393 - 132 - ----------- ----------- ------------ ----------- Weighted average common and common equivalent shares outstanding 11,596 13,840 9,950 12,954 ----------- ----------- ------------ ----------- ----------- ----------- ------------ -----------
(5) COMPREHENSIVE INCOME Comprehensive income includes net income, foreign currency translation adjustments and unrealized gains on marketable securities and is detailed as follows for the periods presented:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------------- -------------------------- 1998 1999 1998 1999 ----------- ------------ ----------- ----------- (in thousands) Net income (loss) $3,002 $(4,327) $2,023 $(33,783) Foreign currency translation adjustments 7 35 (3) (114) Unrealized gain (loss) on marketable securities (1) - 11 - ----------- ------------ ----------- ----------- Comprehensive income (loss) $3,008 $(4,292) $2,031 $(33,897) ----------- ------------ ----------- ----------- ----------- ------------ ----------- -----------
(6) DEBT In April 1999, the Company entered into a $100 million syndicated credit facility underwritten and arranged by a major commercial bank (the "Bank") which replaced the Company's $50 million revolving credit facility. The new credit facility included a three-year, $75 million revolving line of credit (the "Revolver") and a five-year, $25 million term loan (the "Term Loan"). The Term Loan included repayments of principal in quarterly installments with final payment due March 31, 2004. Interest accrued on the Term Loan at the Base Rate (which is the greater of Prime Rate or the Federal Funds Rate plus 0.50%) plus 1.5% or the London Interbank Offering Rate ("LIBOR") plus 3.0%, at the option of the Company. Borrowings under the Revolver bear interest beginning at the Base Rate plus 0.50% to 1.50% or the LIBOR Rate plus 1.75% to 2.75% at the option of the Company. The Company is also required to pay a commitment fee based on the unused portion of the Revolver at an annual percentage rate ranging from 0.50% to 0.75%, as defined in the agreement. The credit facility was intended to be used to finance acquisitions, refinance existing indebtedness and fund working capital requirements. The Company must comply with various loan covenants including: (i) maintenance of certain financial performance ratios; (ii) limits on capital expenditures; (iii) restrictions on additional indebtedness; (iv) restrictions on liens, guarantees, advances and dividends; and (v) restrictions on the type, size and number of acquisitions. At June 30, 1999 and September 30, 1999, the Company was not in compliance with the financial covenants of its Credit Agreement. On August 27,1999, the Company and the Banks entered into a Third Amendment to Forbearance Letter Agreement and Amendment Agreement (the "Third Amendment") pursuant to which, among other things, the Banks agreed to a forbearance of their rights and remedies under the Credit Agreement and prior forbearance agreements through November 15, 1999. As of November 15, 1999, the Company and the Banks reached agreement as to the terms and conditions of a Fourth Amendment to Forbearance Letter Agreement and Amendment Agreement (the "Fourth Amendment") by which the Banks extended their agreement to forbear, together with the maturity of the credit facility, 7 through February 15, 2000. The Fourth Amendment, among other things, effected a permanent reduction of the Company's credit limit to about $51 million and required the Company to pay certain extension fees. Except as noted above, the terms of the Fourth Amendment are substantially consistent with the terms of the Third Amendment. As of September 30, 1999, the Company wrote off approximately $1.4 million of deferred financing costs related to the renegotiation of the Company's credit facility which is included in interest and other expense on the statement of operations. (7) RETENTION COSTS On January 1, 1999, the Company granted restricted stock awards to certain key employees to purchase 58,500 shares of the Company's Common Stock at a purchase price of $0.01 per share. These restricted stock awards vest in four installments every six months beginning June 30, 1999. The Company records compensation expense ratably over the vesting period based on the current fair value of the Common Stock. On August 12, 1999, the Company granted restricted stock awards to certain key employees to purchase approximately 1.3 million shares of the Company's Common Stock at a purchase price of $0.01 per share. These restricted stock awards vest in three installments every six months beginning January 1, 2000. The Company records compensation expense ratably over the vesting period based on the current fair value of the Common Stock. During the third quarter, the Company recorded retention costs of approximately $0.7 million related to employee retention plans. (8) ASSETS TO BE DISPOSED OF During the second quarter of 1999, as part of its strategy to migrate its revenue base from hardware sales to higher margin IT service revenues, the Company initiated a plan to sell two of its operating companies, Corporate Access, Inc. ("Corporate Access") and U.S. Communications, Inc. ("USComm"). Both companies have significant computer hardware revenue concentrations and are included in the Company's System Support division. Pursuant to SFAS 121, the Company's consolidated balance sheet at September 30, 1999 has been adjusted to reduce the assets and liabilities of Corporate Access and USComm and the goodwill associated with the two operating companies to their expected net realizable value. As a result, the impairment of intangible assets charge in the second and third quarters of 1999, respectively, included losses of $6.1 million and $1.5 million. The remaining net assets of these companies of $2.8 million are included on the balance sheet in prepaids and other current assets at September 30, 1999. Subsequent to September 30, 1999, the Company completed the sale of both Corporate Access and USComm. As of October 18, 1999, the Company sold the assets of both Corporate Access and USComm for a sales price of $2.3 million of cash and equity securities of the purchaser. Subsequent to closing the Company is also entitled to receive additional funds related to the realization of net assets sold. Combined net revenues for Corporate Access and USComm for the three and nine months ended September 30, 1999 were $8.7 million and $24.5 million, respectively. Combined net revenues for these companies for the three and nine months ended September 30, 1998 were $9.0 million and $22.4 million, respectively. Combined income from operations for these companies for the three and nine months ended September 30, 1999 were approximately $0.2 million and $0.5 million, respectively. Combined income from operations for these companies for the three and nine months ended September 30, 1998 were approximately $0.2 million and $0.7 million, respectively. During the second quarter, the client that provided substantially all of the revenue of the Company's Boston-based strategic consulting business, Management Support Technology Corp. ("MST"), was acquired, and the acquiring company expressed its desire not to renew any projects with MST after all current projects are completed. Completion of existing projects is expected in 1999. As a result the decision was made to shut down MST's operations in its Boston office and the Company has, 8 pursuant to SFAS 121, measured the carrying value of MST's long-lived assets consisting primarily of goodwill and recorded an impairment charge of $15.1 million to reduce the goodwill related to MST to $0 as of June 30, 1999. Net revenues for MST for the three and nine months ended September 30, 1999 were $0.4 million and $3.7 million, respectively. Net revenues for MST for the three and nine months ended September 30, 1998 were $2.9 million and $6.6 million, respectively. MST's losses from operations for the three and nine months ended September 30, 1999 were $1.8 million and $2.5 million, respectively. MST's income from operations for the three and nine months ended September 30, 1998 were $0.7 million and $1.9 million, respectively. (9) IMPAIRMENT OF ASSETS HELD AND USED The Company's Interactive Software Systems ("ISSI") business unit has experienced significant revenue and profit degradation of its Safari product line. These changes are the result of operating and financial difficulties being experienced by its largest sales channel partner, an international ERP software company which has recently informed ISSI of its intention to no longer promote its Safari products. As a result, the Company has, pursuant to SFAS 121, measured the goodwill and other long-lived assets of that business unit. The net capitalized software value of $1.7 million is expected to be realized through subsequent sales of and support services for the software. However, the projected remaining cash flows from other products and services do not support the carrying value of the other intangible assets. Consequently, the Company recorded an impairment charge of $8.0 million to reduce the goodwill related to ISSI to $0 as of June 30, 1999. (10) RESTRUCTURING AND OTHER CHARGES During the second and third quarters of 1999, the Company recorded restructuring and other special charges of approximately $4.0 million, which are included in other costs on the statement of operations. Included in this total are involuntary severance benefits and employment contract settlements of $1.4 million, facility closures of $0.4 million, voluntary severance benefits of $0.3 million, retention costs of $0.7 million, contract losses of $0.8 million, and other charges of $0.4 million. As of September 30, 1999, payments of approximately $0.5 million have been made for severance benefits. The Company anticipates that substantially all of the remaining restructuring and other special charges will be paid in 1999 and 2000. The severance and other employee related costs provide for a reduction of approximately 115 employees for streamlining operations related to cost reduction initiatives. The facility closure costs represent estimated losses in closing facilities to match a reduction in force as well as to reduce redundancies in the combined company. Contract losses are comprised of employee time and expenses in order to complete a large contract at MST. (11) EXTRAORDINARY ITEM In April 1999, the Company entered into a new $100 million credit facility which replaced the existing $50 million facility. As a result, the Company recognized an extraordinary loss to write off the unamortized balance of deferred financing costs from the original facility. The extraordinary loss recorded was approximately $184,000, net of income taxes of $122,000, for the second quarter of 1999. 9 (12) Supplemental Cash Flow Information
NINE MONTHS ENDED SEPTEMBER 30, ---------------------- 1998 1999 ----- ------ (in thousands) Cash paid during the year for: Federal income tax payments $ -- $ 2,725 State income tax payments 911 1,113 Interest payments 134 2,479 Supplemental disclosure of non-cash transactions: Liability incurred for technology license $ 1,550 $ -- Business acquisitions: Cash paid for business acquisitions $ 72,100 $ 6,780 Less cash acquired (4,771) (1,203) -------- -------- Cash paid for business acquisitions, net 67,329 5,577 Liability incurred for purchase price adjustment 579 -- Issuance of common stock for business acquisition 27,150 2,330 -------- -------- Total purchase price 95,058 7,907 Less in-process research and development (5,000) -- Less fair value of net assets acquired, net of cash (3,331) 1,700 -------- -------- Excess of fair value over net assets acquired $ 86,727 $ 9,607 -------- -------- -------- --------
The excess of fair value over net assets acquired includes goodwill, internally developed software and other intangibles acquired in conjunction with the acquisitions of the operating companies. (13) SEGMENT REPORTING The Company has four reporting segments: Consulting Solutions; System Support; Government Solutions; and Enterprise Performance Service ("EPS"). The Company's Safari software related business ("Safari") and its Interactive Software Systems operating unit are not included in these segments and are included in "Other". These four segments correspond to the Company's divisional structure which was changed in the second quarter of 1999. The financial information reported below for 1998 has been conformed to the new divisional structure. The Consulting Solutions division provides decision support, custom application development, software package implementation, and contract staffing and recruiting. These services involve the development of near and long-term technology plans that help clients achieve specific strategic business objectives and include IT needs analysis, technology infrastructure design, future technology planning and refreshment, systems architecture development, decision support planning and analysis, and business process automation. The System Support division provides customer management solutions and support services, call center and help-desk operations, as well as a complete array of desktop systems maintenance and support services to its clients, including hardware and software maintenance, systems testing and engineering, and hardware procurement. The Government Solutions division offers its public sector clients a variety of management consulting services, interactive media services, system maintenance and hardware procurement. The EPS division offers its clients a single source for enterprise resource planning and e-commerce solutions focusing on implementation and consulting related to the SAP, Peoplesoft, Trilogy, BAAN, and Made2Manage software packages. The Division focuses on the following service lines: installation, business process design, configuration and implementation, and staff augmentation. 10 The accounting policies of the reporting segments are the same as those described in Note 2. The Company evaluates the performance of its operating segments based on operating income after intercompany transactions have been eliminated. The "Other" column includes the Safari operating unit and corporate related items not allocated to the divisions. Safari's sales and services include the sale and implementation of the Safari software product lines, training and continuing education. Corporate selling, general and administrative costs have been allocated to the divisions and Safari based on a three factor formula based on total revenue, operating income and total assets. Summarized financial information concerning the Company's reportable segments is shown in the following tables (in thousands). For the nine months ended September 30, 1999:
CONSULTING SYSTEM GOVERNMENT SOLUTIONS SUPPORT SOLUTIONS EPS OTHER CONSOLIDATED ---------------------- ------------- --------------------- -------------- IT service revenues $ 26,465 $ 19,902 $ 20,191 $ 31,267 $ 10,247 $ 108,072 Hardware procurement revenues - 46,005 8,510 - - 54,515 ---------------------- ------------- --------------------- -------------- Total revenues $ 26,465 $ 65,907 $ 28,701 $ 31,267 $ 10,247 $ 162,587 ---------------------- ------------- --------------------- -------------- Income (loss) from operations $ (2,008) $ 4,490 $ 4,867 $ (1,801) $ (34,812)(a) $ (29,264) ---------------------- ------------- --------------------- -------------- Total Assets $ 37,497 $ 31,393 $ 39,156 $ 55,936 $ 14,882 $ 178,864 ---------------------- ------------- --------------------- --------------
For the nine months ended September 30, 1998:
CONSULTING SYSTEM GOVERNMENT SOLUTIONS SUPPORT SOLUTIONS EPS OTHER CONSOLIDATED ------------------------ ------------- --------- ----------- -------------- IT service revenues $ 21,471 $ 13,885 $ 12,376 $ - $ 11,637 $ 59,369 Hardware procurement revenues - 43,550 11,439 - - 54,989 ------------------------ ------------- --------- ----------- -------------- Total revenues $ 21,471 $ 57,435 $ 23,815 $ - $ 11,637 $ 114,358 ------------------------ ------------- --------- ----------- -------------- Income (loss) from operations $ 1,055 $ 4,695 $ 2,467 $ - $ (2,602)(b)$ 5,615 ------------------------ ------------- --------- ----------- -------------- Total Assets $ 55,273 $ 38,425 $ 32,992 $ - $ 12,649 $ 139,339 ------------------------ ------------- --------- ----------- --------------
- ----------------- (a) Includes Impairment of intangible assets and loss on sale of assets to be disposed of and other costs of $34.7 million. (b) Includes a charge of $5 million for in-process research and development. (14) COMMITMENTS AND CONTINGENCIES In the course of Condor's consolidation efforts, SCM LLC d/b/a The Commonwealth Group ("Commonwealth"), the promoter of the Offering, and Condor negotiated with Emtec, Inc. ("Emtec"), an IT service company based in Pennsylvania, with a view to Emtec becoming one of the Founding Companies. As part of the process, Emtec's investment banker and Commonwealth executed two confidentiality agreements pursuant to which each agreed, among other things, not to disclose certain confidential information and Commonwealth agreed that it would not seek to enter into a business transaction with any companies to be introduced to it by Emtec's investment banker for a period of two years without such investment banker's prior written consent. On October 28, 1997, Emtec filed a Complaint in the United States District Court for the Eastern District of Pennsylvania against Condor, Commonwealth, J. Marshall Coleman, a Managing Director of Commonwealth and the former Chairman of the Board of Condor, and Kennard F. Hill, the Company's Chairman of the Board and Chief Executive Officer, captioned EMTEC, INC. V. CONDOR TECHNOLOGY SOLUTIONS, INC., SCM LLC, ET AL., Civil No. 97-6652. The complaint alleges breach of contract, tortuous interference with Emtec's business relationship with Corporate Access, Inc. ("Corporate Access") and Computer Hardware Maintenance Corporation ("CHMC"), two of the 11 Founding Companies, and misappropriation of a trade secret arising out of the participation of CHMC and Corporate Access in the consolidation and the Offering without Emtec's written consent. In connection with the three causes of action, Emtec demands that the defendants disgorge the financial benefits that they have and will obtain as a result of their alleged breach of contract and seeks compensatory and punitive damages. On December 31, 1997, the defendants filed an Answer, denying the allegations and asserting various affirmative defenses. The court denied Emtec's motion to amend the complaint to add a claim of unjust enrichment. A motion by Condor for partial summary judgment was granted in part to eliminate Emtec's claim for misappropriation of a trade secret and later Emtec stipulated to a dismissal of its claim of tortuous interference with business relations, and to the removal of both Mr. Coleman and Mr. Hill as defendants in the suit. Trial of this matter could be scheduled in the next six months. Condor believes that Emtec's allegations are without merit and that, in any event, the ultimate resolution of this action will not have a material adverse effect on the Company's financial position or results of operations. Commonwealth has agreed to indemnify the Company with regard to any final judgment or settlement arising out of the above action or any similar action. Commonwealth's obligations under such agreement have been guaranteed by the three members of Commonwealth. On or about July 1, 1999, an action was commenced against the Company and its Chief Executive Officer in the United States District Court for the District of Maryland, captioned GORDON V. CONDOR TECHNOLOGY SOLUTIONS, INC., ET AL., Civil AMD-99-1952. The plaintiff purported to bring the action on behalf of a class consisting of all persons (other than the defendants and their affiliates) who purchased common stock in the Company between February 3, 1999 and June 8, 1999 (the "Alleged Class Period"). The plaintiff contended that, during the Alleged Class Period, the defendants made false and misleading statements about the future impact of the "Y2K" issue on the Company's business and on the concentration of the Company's business with certain customers. The Company believes that the statements challenged by the plaintiff were accurate, and that the plaintiff's allegations of wrongdoing were baseless. On November 4, 1999, the Court issued an Order dismissing the class action lawsuit against the Company and its officer. The Company is a party to other legal proceedings and disputes related to the Company's day to day business operations, none of which, in the opinion of management, are material to the financial position or results of operations of the Company. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion is qualified in its entirety by reference to and should be read in conjunction with the Annual Report on Form 10-K of the Company for its fiscal year ended December 31, 1998 (the "Form 10-K"). A number of statements in this Quarterly Report on Form 10-Q address activities, events or developments which the Company anticipates may occur in the future, including such matters as the Company's strategy for internal growth, additional capital expenditures (including the amount and nature thereof), acquisitions of assets and businesses, industry trends and other such matters. For a discussion of important factors which could cause actual results to differ materially from the forward-looking statements see "Special Note Regarding Forward Looking Statements." INTRODUCTION The Company earns revenues from the provision of IT services and hardware procurement. The Company recognizes IT service revenues using formulas based on time and materials, whereby revenues are recognized as costs are incurred at agreed-upon billing rates. For projects billed on a fixed-price basis, revenue is recognized using the percentage of completion method. Percentage of completion is determined using total costs as a cost input measure. Revenues from license fees on proprietary software are recognized when a non-cancelable license agreement has been signed, the product has been delivered, collection is probable and all significant obligations relating to the license have been satisfied. There are no significant post-sales support obligations related to the Company's license fees. Revenues from hardware procurement are recognized upon shipment or acceptance of the equipment. When installation services are an integral component of the hardware procurement, revenue is recognized at the customer's acceptance of the equipment. Cost of revenues includes the provision of services and material directly related to the revenues, costs of acquisition of hardware resold to clients, subcontracted labor or other outside services and other direct costs associated with revenues, as well as an allocation of certain indirect costs. Selling, general and administrative costs include salaries, benefits, commissions payable to the Company's sales and marketing personnel, recruiting, finance and other general and administrative costs. In July 1996, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 97 ("SAB 97") relating to business combinations immediately prior to an initial public offering. SAB 97 requires that these combinations be accounted for using the purchase method of acquisition accounting. Condor was identified as the "accounting acquiror" for financial statement presentation purposes. RESULTS OF OPERATIONS The Company's consolidated financial statements have been prepared based on accounting for all companies acquired using the purchase method of acquisition accounting. All operating companies that previously used fiscal year financial reporting basis have converted to a calendar year financial reporting basis and because all individual operating companies are now included in the consolidated tax return of Condor, all have converted their tax status to be taxed under subchapter C of the Internal Revenue Code of 1986, as amended. The financial statements include operations of the operating companies from their respective dates of acquisition. Financial statement audits of the Founding Companies were completed through January 31, 1998. As there were no significant transactions from February 1, 1998 to the February 10, 1998 closing of the Mergers, January 31, 1998 is considered to represent the pre-merger closing balance sheet. On February 1, 1998 (the date of post-Merger balance sheet), Condor began reporting on a consolidated basis. As a result, for the nine months ended September 30, 1998, Condor's consolidated operating results include the Founding Companies' operations for only eight months. 13 UNAUDITED CONSOLIDATED RESULTS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998 The following table sets forth certain selected financial data for the Company and as a percentage of revenues for the periods indicated:
THREE MONTHS ENDED SEPTEMBER 30, --------------------------------------------------------- 1998 1999 --------------------------- -------------------------- (in thousands, except percentages) IT service revenues $ 27,345 60.8% $ 33,018 66.8% Hardware procurement revenues 17,662 39.2% 16,435 33.2% ----------- ------------ ----------- ----------- Total revenues 45,007 100.0% 49,453 100.0% ----------- ------------ ----------- ----------- Cost of IT services 13,109 47.9% 20,118 60.9% Cost of hardware procurement 15,771 89.3% 14,663 89.2% ----------- ----------- Total cost of revenues 28,880 64.2% 34,781 70.3% ----------- ----------- Gross profit 16,127 35.8% 14,672 29.7% Selling, general and administrative expenses 9,272 20.6% 12,969 26.2% Depreciation and amortization 1,310 2.9% 1,830 3.7% Impairment of intangible assets - -% 1,500 3.1% Other costs - -% 1,535 3.1% ----------- ------------ ----------- ----------- Income (loss) from operations $ 5,545 12.3% $ (3,162) (6.4)% ----------- ------------ ----------- ----------- ----------- ------------ ----------- -----------
REVENUES. Revenue increased $4.4 million or 9.9%, from $45.0 million for the three months ended September 30, 1998 to $49.4 million for the three months ended September 30, 1999. The increase is the result of the acquisition of seven additional operating companies subsequent to the initial public offering. IT service revenue grew approximately $5.7 million, or 20.7%, while hardware procurement revenue decreased $1.2 million, or 6.9%. IT service revenue increased in the Company's Government Solutions and EPS divisions. The Government Solutions division revenue growth was primarily attributable to a shift in the mix of revenue from hardware procurement to higher margin IT service revenues. The EPS division includes operations of PowerCrew, Inc. and Global Core Strategies, Inc. which were acquired in the fourth quarter of 1998 and Titan Technologies Group, LLC which was acquired in April 1999. These increases were offset by IT service revenue decreases in the Company's other divisions. The Consulting Solutions division revenue decline was primarily attributable to the winding down of MST's operations due to the loss of a large insurance client during the second quarter of 1999. The System Solutions division revenue decrease was primarily the result of the reprocurement of a large call center contract for a five year period at a reduced revenue rate. Additionally, the Safari Solutions unit has experienced a decrease in sales of the Company's Safari software licenses during 1999. The decrease in hardware procurement revenue was primarily attributable to a shift in the Company's focus from hardware procurement to higher margin IT service revenues. COST OF REVENUES. Cost of revenues increased $5.9 million or 20.4% from $28.9 million for the three months ended September 30, 1998 to $34.8 million for the three months ended September 30, 1999. This increase is primarily attributable to the revenue growth discussed above. Cost of revenues as a percentage of revenues increased from 64.2% of revenues for the three months ended September 30, 1998 to 70.3% for the three months ended September 30, 1999. This increase was primarily a result of lower utilization and pressure on average billing rates due to delays in Year 2000 spending in the IT service market. 14 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses increased $3.7 million, or 39.9%, from $9.3 million to $13.0 million for the three months ended September 30, 1998 and 1999, respectively. The increase is attributable to the acquisitions of the additional seven operating companies subsequent to the Mergers and the hiring of additional sales and marketing staff and administrative personnel. Selling, general and administrative costs increased from 20.6 % of revenues to 26.2% of revenues for the three months ended September 30, 1998 and 1999, respectively. This increase primarily resulted from the incremental selling, general and administrative costs associated with the execution of the Company's growth strategies. DEPRECIATION AND AMORTIZATION. Depreciation and amortization increased $0.5 million, 39.7%, from $1.3 million for the three months ended September 30, 1998 to $1.8 million for the three months ended September 30, 1999. The increase is attributable an increase in goodwill and other intangible amortization associated with the acquisitions of the additional seven operating companies subsequent to the Mergers; additional amortization on goodwill related to the contingent purchase consideration earned at December 31, 1998; and the increase of property and equipment. IMPAIRMENT OF INTANGIBLE ASSETS. Impairment of intangible assets includes a write down of intangible assets during the third quarter of 1999 based on measurement in accordance with SFAS 121. As a part of its strategy to reduce the amount of computer hardware resale, the Company decided to sell two of its operating companies, Corporate Access, Inc. and U.S. Communications, Inc. The Company recorded an additional charge of $1.5 million to reduce the assets of these companies, including intangible assets, to their estimated net realizable value. During the second quarter, the Company recorded a charge of $6.1 million. OTHER COSTS. Other costs include restructuring and other one-time charges of $3.0 million. Included in this total are retention costs of $0.7 million and voluntary severance and other costs of $0.8 million. UNAUDITED CONSOLIDATED RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998 The following table sets forth certain selected financial data for the Company and as a percentage of revenues for the periods indicated:
NINE MONTHS ENDED SEPTEMBER 30, --------------------------------------------------------- 1998 1999 --------------------------- -------------------------- (in thousands, except percentages) IT service revenues $ 59,369 51.9% $108,072 66.5% Hardware procurement revenues 54,989 48.1% 54,515 33.5% ----------- ------------ ------------- ----------- Total revenues 114,358 100.0% 162,587 100.0% ----------- ------------ ------------- ----------- Cost of IT services 28,680 48.3% 63,018 58.3% Cost of hardware procurement 49,814 90.6% 49,042 90.0% ----------- ------------- Total cost of revenues 78,494 68.6% 112,060 68.9% ----------- ------------- Gross profit 35,864 31.4% 50,527 31.1% Selling, general and administrative expenses 22,124 19.4% 38,780 23.9% Depreciation and amortization 3,125 2.7% 6,322 3.9% In process research and development 5,000 4.4% - -% Impairment of intangible assets - -% 30,736 18.9% Other costs - -% 3,953 2.4% ----------- ------------ ------------- ----------- Income (loss) from operations $ 5,615 4.9% $(29,264) (18.0)% ----------- ------------ ------------- ----------- ----------- ------------ ------------- -----------
15 REVENUES. Revenue increased $48.2 million or 42.2%, from $114.4 million for the nine months ended September 30, 1998 to $162.6 million for the nine months ended September 30, 1999. This increase is partly a result of the inclusion of only eight of the nine months of operations of the Founding Companies in 1998 compared to the nine months ended September 30, 1999. All of the operating companies' revenues were included for the nine months ended September 30, 1999 except Titan Technologies Group LLC whose revenues were included from its acquisition date in April 1999 and Dimensional Systems LLC which was purchased in September 1999. The increase is also the result of organic revenue growth and the acquisition of seven additional operating companies subsequent to the initial public offering. IT service revenue grew approximately $48.7 million, or 82.0%, while hardware procurement revenue decreased $0.5 million, or 0.9%. IT service revenue increased in each of the Company's divisions. The Consulting Solutions division revenue growth was primarily attributable to increases in consulting and planning services within the division and the acquisition of Decision Support Technologies in May 1998 and LINC Systems Corporation in July 1998. The System Solutions division revenue growth was primarily attributable to growth in the Company's customer management solutions, call center, help desk and support services. The Government Solutions division revenue growth was primarily attributable to the acquisition of Louden Associates, Inc. in June 1998. The ERP division includes operations of PowerCrew, Inc. and Global Core Strategies, Inc. which were acquired in the fourth quarter of 1998 and Titan Technologies Group, LLC which was acquired in April 1999. Safari Solutions has experienced a decrease in sales of the Company's Safari software licenses during 1999. The decrease in hardware procurement revenue was primarily attributable to a shift in the Company's focus from hardware procurement to higher margin IT service revenues. COST OF REVENUES. Cost of revenues increased $33.6 million or 42.8% from $78.5 million for the nine months ended September 30, 1998 to $112.1 million for the nine months ended September 30, 1999. This increase is primarily attributable to the revenue growth discussed above. Cost of revenues as a percentage of revenues increased from 68.6% of revenues for the nine months ended September 30, 1998 to 68.9% for the nine months ended September 30, 1999. This increase was primarily a result of lower utilization and pressure on average billing rates due to delays in Year 2000 spending in the IT service market. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses increased $16.7 million, or 75.3%, from $22.1 million to $38.8 million for the nine months ended September 30, 1998 and 1999, respectively. The increase is attributable to the inclusion of only eight of the nine months of operations of the Founding Companies in 1998; the acquisitions of the additional seven operating companies subsequent to the Mergers; the hiring of additional sales and marketing staff and administrative personnel; and recruiting and hiring additional personnel in the consulting, systems and EPS services areas in anticipation of future revenue growth. Selling, general and administrative costs increased from 19.4% of revenues to 23.9% of revenues for the nine months ended September 30, 1998 and 1999, respectively. This increase primarily resulted from the incremental selling, general and administrative costs associated with the execution of the Company's growth strategies. DEPRECIATION AND AMORTIZATION. Depreciation and amortization increased $3.2 million, or 102.3%, from $3.1 for the nine months ended September 30, 1998 to $6.3 million for the nine months ended September 30, 1999. The increase is attributable to the amortization of goodwill of the Founding Companies beginning at the time of the Mergers which included only eight of the nine months in 1998; an increase in goodwill and other intangible amortization associated with the acquisitions of the additional seven operating companies subsequent to the Mergers; additional amortization on goodwill related to the contingent purchase consideration earned at December 31, 1998; and the increase of property and equipment. 16 IMPAIRMENT OF INTANGIBLE ASSETS. Impairment of intangible assets includes a write down of intangible assets during the second and third quarters of 1999 based on measurement in accordance with SFAS 121. As a part of its strategy to reduce the amount of computer hardware resale, the Company decided to sell two of its operating companies, Corporate Access, Inc. and U.S. Communications, Inc. In the second and third quarters, the Company recorded charges of $7.6 million to reduce the assets of these companies, including intangible assets, to their estimated net realizable value. The client that provided substantially all of the revenue of the Company's Boston based strategic consulting business, Management Support Technology Corp. ("MST"), was acquired, and the acquiring company expressed its desire not to renew any projects after all current projects are completed. As a result the decision was made to shut down MST's continuing operations in its Boston office, and the Company has recorded an impairment charge of $15.1 million for MST. The Company's Safari Solutions business through its Interactive Software Systems ("ISSI") business unit has experienced significant revenue and profit degradation in the sale of its Safari product line as a result of operating and financial difficulties being experienced by its largest sales channel partner, an international ERP software company which has recently informed ISSI of its intention to no longer promote its Safari products. As the result, the Company recorded an impairment charge of $8.0 million for ISSI. OTHER COSTS. Other costs include restructuring and other special charges of $4.0 million. Included in this total are involuntary severance benefits and employment contract settlements of $1.4 million, facility closures of $0.4 million, voluntary severance benefits of $0.3 million, retention costs of $0.7 million, contract losses of $0.8 million, and other charges of $0.4 million. LIQUIDITY AND CAPITAL RESOURCES Condor is a holding company that conducts its operations through its subsidiaries. Accordingly, Condor's principal sources of liquidity are the cash flows of its operating divisions and cash available from its credit facilities. At September 30, 1999 the Company had $4.9 million in cash and cash equivalents and $47.6 million of indebtedness outstanding, which consists primarily of borrowings on the credit facility (the "Credit Facility"), which was entered in April 1999. In accordance with its Credit Facility, the Company must comply with various loan covenants including: (i) maintenance of certain financial performance ratios; (ii) limits on capital expenditures; (iii) restrictions on additional indebtedness; (iv) restrictions on liens, guarantees, advances and dividends; and (v) restrictions on the type, size and number of acquisitions. At June 30, 1999 and September 30, 1999, the Company was not in compliance with the financial covenants of its Credit agreement. On August 27, 1999, the Company and the Banks entered into a Third Amendment to Forbearance Letter Agreement and Amendment Agreement (the "Third Amendment") pursuant to which, among other things, the Banks agreed to a forbearance of their rights and remedies under the Credit Agreement and prior forbearance agreements through November 15, 1999. As of November 15, 1999, the Company and the Banks reached agreement as to the terms and conditions of a Fourth Amendment to Forbearance Letter Agreement and Amendment Agreement (the "Fourth Amendment") by which the Banks extended their agreement to forbear, together with the maturity of the credit facility, through February 15, 2000. The Fourth Amendment, among other things, effected a permanent reduction in the Company's credit limit to about $51 million and required the Company to pay certain extension fees. Except as noted, the terms of Fourth Amendment are substantially consistent with the terms of the Third Amendment. If unable to negotiate a new agreement with existing lenders or obtain replacement financing, the Company may experience material adverse financial effects and its ability to continue as a going concern may be impaired. By letter dated October 28, 1999, the Company requested a hearing before the Nasdaq Listing Qualification Panel regarding a pending delisting notification of the Company's Common Stock from the Nasdaq National Market. The hearing will be held on December 9, 1999. If delisted, the Common Stock would be quoted on the Nasdaq SmallCap Market or the NASD's Electronic Bulletin Board. 17 Net cash used in operating activities was $2.6 million for the nine months ended September 30, 1999. Net cash used in investing activities was $16.3 million for the nine months ended September 30, 1999 which included $4.2 million for purchases of property, equipment and the costs of licensing and developing the Company's internal use ERP system. Net cash provided by financing activities was $20.7 million for the nine months ended September 30, 1999 which is comprised of net borrowings of debt and is offset by outflows for deferred financing costs related to the Company's new Credit Facility. YEAR 2000 READINESS IMPACT OF YEAR 2000 ISSUE. The Year 2000 issue is the result of certain computer programs being written using two digits rather than four to define the applicable year. Any computer programs or hardware that have date-sensitive software or embedded chips may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send invoices, or engage in similar normal business activities. Based on recent assessments, the Company determined that it will be required to modify or replace portions of hardware and software so that those systems will properly utilize dates beyond December 31, 1999. The Company presently believes that with modifications and replacement of some of the existing hardware and software, the Year 2000 issue can be mitigated. However, if such modifications and replacements are not made, or are not completed timely, the Year 2000 issue could have a small to moderate impact on the Company's operations. The Company currently does not have a formal contingency plan in place, however a plan is expected to be completed by December 1999. The Company's plan to resolve the Year 2000 issues involves four phases: assessment, remediation, testing and implementation. ASSESSMENT. The Company has fully completed its assessment of all material systems and Company products that could be affected by the Year 2000 issue. The completed assessment indicated that a portion of the Company's information technology systems could be affected. That assessment also indicated that accounting systems being used at the time were at risk of not being Year 2000 compliant. If not resolved on a timely basis, that could have affected the Company's ability to provide adequate and timely billing information. REMEDIATION. The Company has fully completed the remediation phase of all material hardware systems. TESTING AND IMPLEMENTATION. The Company estimates it has completed 98% of the testing and implementation of its remediated systems. Completion of the testing phase was completed and all remediated systems should be fully implemented by December 1999. In certain cases, the remedy is a replacement of the system or software. The Company has begun the implementation of a Year 2000 compliant enterprise resource planning ("ERP") accounting and management information system to remediate the risk of non-Year 2000 compliant accounting software. The financial module of the ERP system went "live" on August 1, 1999. THIRD PARTIES. With respect to third parties, the Company has completed its assessment, remediation and testing phases. The Company is in the process of surveying its significant suppliers that do not involve system interface. The Company has no means of ensuring that these suppliers will be Year 2000 ready, and the inability of those parties to complete the Year 2000 resolution process could materially impact the Company. The effect of non-compliance by third parties, where no system interface exists, is not 18 determinable. The Company is not aware of any problems with third parties that would materially impact results of operations, liquidity, or capital resources. The Company's internal assessment of its proprietary licensed products released after December, 1998 is that they are, in and of themselves, Year 2000 compliant. Customers that purchased the products prior to this date may upgrade the products to be Year 2000 compliant if they paid for a continuing support services agreement for the products. There can be no assurances, however, that the Company's current proprietary licensed products do not contain undetected Year 2000 defects. The Company can not ensure Year 2000 compliance will be maintained when its proprietary licensed products are integrated with third party non-compliant hardware products, software products, operating systems or databases. COST. The Company will utilize both internal and external resources to update or replace, test, and implement the affected information technology systems for Year 2000 modifications. The total cost of the Year 2000 project is estimated at $1.8 million and is being funded through operating cash flows. Expenditures to date have related to all phases of the Year 2000 project. As of September 30, 1999, the cost incurred to date was approximately $1.8 million. Remaining costs are minimal and relate to the resources to complete implementation of new systems. The Company's plans to complete the Year 2000 modifications are based on management's best estimates, which were derived utilizing numerous assumptions of future events including the continued availability of certain resources and other factors. Estimates on the status of completion and the expected completion dates are based on costs incurred to date compared to total expected costs. However, there can be no guarantee that these estimates will be achieved, and actual results could differ materially from those plans. Special factors that might cause such material differences include, but are not limited to, the availability and cost of personnel trained in this area, the ability to locate and correct all relevant computer codes, and similar uncertainties. SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS Statements in this Form 10-Q based on current expectations that are not strictly historical statements, such as the Company's or management's intentions, hopes, beliefs, expectations, strategies, or predictions, are forward-looking statements. Such statements, or any other variation thereof regarding the Company's future activities or other future events or conditions within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 1934, as amended, are intended to be covered by the safe harbors for forward-looking statements created thereby. Investors are cautioned that all forward-looking statements involve risks and uncertainty, including without limitation, the sufficiency of the Company's working capital and the ability of the Company to realize benefits from consolidating certain general and administrative functions, to pursue strategic acquisitions and alliances, to retain management and to implement its focused business strategy, to leverage consulting services, secure full-service contracts, to expand client relationships, successfully recruit, train and retain personnel, expand services and geographic reach and successfully defend itself in ongoing and future litigation. 19 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK MARKET RISK. The Company is exposed to market risk from adverse changes in interest rates and foreign currency exchange rates. INTEREST RATE RISKS. The Company is exposed to risk from changes in interest rates as a result of its borrowing activities. At September 30, 1999, the Company had total debt of $47.6 million of which $46.9 million represents borrowings on its Credit Facility at a variable interest rate. Management does not believe that the Company's exposure to interest rate fluctuations is material. FOREIGN CURRENCY EXCHANGE RISK. The Company's international operations are subject to foreign exchange rate fluctuations. The Company derived less than 2% of its revenue for the nine months ended September 30, 1999 from services performed in the Netherlands, the United Kingdom, Germany and Mexico, all of which have traditionally had relatively stable currencies. Management does not believe that the Company's exposure to foreign currency rate fluctuations is material. 20 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS In the course of Condor's consolidation efforts, SCM LLC d/b/a The Commonwealth Group ("Commonwealth"), the promoter of the Offering, and Condor negotiated with Emtec, Inc. ("Emtec"), an IT service company based in Pennsylvania, with a view to Emtec becoming one of the Founding Companies. As part of the process, Emtec's investment banker and Commonwealth executed two confidentiality agreements pursuant to which each agreed, among other things, not to disclose certain confidential information and Commonwealth agreed that it would not seek to enter into a business transaction with any companies to be introduced to it by Emtec's investment banker for a period of two years without such investment banker's prior written consent. On October 28, 1997, Emtec filed a Complaint in the United States District Court for the Eastern District of Pennsylvania against Condor, Commonwealth, J. Marshall Coleman, a Managing Director of Commonwealth and the former Chairman of the Board of Condor, and Kennard F. Hill, the Company's Chairman of the Board and Chief Executive Officer, captioned EMTEC, INC. V. CONDOR TECHNOLOGY SOLUTIONS, INC., SCM LLC, ET AL., Civil No. 97-6652. The complaint alleges breach of contract, tortuous interference with Emtec's business relationship with Corporate Access, Inc. ("Corporate Access") and Computer Hardware Maintenance Corporation ("CHMC"), two of the Founding Companies, and misappropriation of a trade secret arising out of the participation of CHMC and Corporate Access in the consolidation and the Offering without Emtec's written consent. In connection with the three causes of action, Emtec demands that the defendants disgorge the financial benefits that they have and will obtain as a result of their alleged breach of contract and seeks compensatory and punitive damages. On December 31, 1997, the defendants filed an Answer, denying the allegations and asserting various affirmative defenses. The court denied Emtec's motion to amend the complaint to add a claim of unjust enrichment. A motion by Condor for partial summary judgment was granted in part to eliminate Emtec's claim for misappropriation of a trade secret and later Emtec stipulated to a dismissal of its claim of tortuous interference with business relations, and to the removal of both Mr. Coleman and Mr. Hill as defendants in the suit. Trial of this matter could be scheduled in the next six months. Condor believes that Emtec's allegations are without merit and that, in any event, the ultimate resolution of this action will not have a material adverse effect on the Company's financial position or results of operations. Commonwealth has agreed to indemnify the Company with regard to any final judgment or settlement arising out of the above action or any similar action. Commonwealth's obligations under such agreement have been guaranteed by the three members of Commonwealth. On or about July 1, 1999, an action was commenced against the Company and its Chief Executive Officer in the United States District Court for the District of Maryland, captioned GORDON V. CONDOR TECHNOLOGY SOLUTIONS, INC., ET AL., Civil AMD-99-1952. The plaintiff purported to bring the action on behalf of a class consisting of all persons (other than the defendants and their affiliates) who purchased common stock in the Company between February 3, 1999 and June 8, 1999 (the "Alleged Class Period"). The plaintiff contended that, during the Alleged Class Period, the defendants made false and misleading statements about the future impact of the "Y2K" issue on the Company's business and on the concentration of the Company's business with certain customers. The Company believes that the statements challenged by the plaintiff were accurate, and that the plaintiff's allegations of wrongdoing were baseless. On November 4, 1999, the Court issued an Order dismissing the class action lawsuit against the Company and its officer. The Company is a party to other legal proceedings and disputes related to the Company's day to day business operations, none of which, in the opinion of management, are material to the financial position or results of operations of the Company. 21 ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS Not applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS There were no matters submitted for a vote by security holders during the three months ended September 30, 1999. ITEM 5. OTHER INFORMATION Not applicable. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits (see index on page 18) (b) Reports on Form 8-K: The Company filed the following: (1) Form 8-K/A Current Report on February 22, 1999 related to the acquisition of substantially all of the assets of Global Core Strategies, Inc. (2) Form 8-K Current report on August 27, 1999 related to the Third Amendment to Forbearance Letter Agreement and Amendment Agreement 22 SIGNATURE Pursuant to the requirements 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. CONDOR TECHNOLOGY SOLUTIONS, INC. Date November 15, 1999 By: /s/ Kennard F. Hill -------------------------- --------------------------------- Kennard F. Hill CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER (PRINCIPAL EXECUTIVE OFFICER) Date November 15, 1999 By: /s/ William J. Caragol ------------------------- --------------------------------- William J. Caragol VICE PRESIDENT AND CHIEF FINANCIAL OFFICER (PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER) 23 EXHIBIT INDEX
Exhibit Number Description ------- ----------- 27 Financial Data Schedule for the three and nine months ended September 30, 1999.
24 EX-27 2 EXHIBIT 27
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SEPTEMBER 30, 1999 CONSOLIDATED FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 3-MOS 9-MOS DEC-31-1999 DEC-31-1999 JUL-01-1999 JAN-01-1999 SEP-30-1999 SEP-30-1999 7,510 7,510 0 0 35,027 35,027 (2,462) (2,462) 373 373 46,916 46,916 10,590 10,590 (2,580) (2,580) 178,864 178,864 78,653 78,653 0 0 0 0 0 0 151 151 90,610 90,610 178,864 178,864 16,435 54,515 49,453 162,587 14,663 49,042 34,781 112,060 18,880 80,338 313 713 1,317 2,832 (5,838) (33,356) (1,511) 243 (4,327) (33,599) 0 0 0 (184) 0 0 (4,327) (33,783) (0.31) (2.60) (0.31) (2.60)
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