BUSINESSES HELD FOR SALE, DISCONTINUED OPERATIONS AND DISPOSITIONS

Dispositions - Discontinued Operations

In our annual report for the fiscal year ended December 31, 2015, we announced that we were exploring strategic alternatives for our Hexis business. Our Hexis business markets our HawkEye products and related maintenance and services to the commercial cyber sector and comprised our entire former Commercial Cyber Solutions reportable segment. As previously announced, the alternatives that we were evaluating included seeking an investment in or an outright sale of this business in one or more transactions to unrelated buyers.

During the first quarter of fiscal year 2016, we completed our assessment of the alternatives for the Hexis business and, the Company committed to a plan to sell the business in its entirety. Management and the Board have decided that although the Hexis business has consistently demonstrated impressive capabilities in its product suites and gained some commercial traction in the marketplace, the progress to date has not been sufficient for the Company to continue to operate the business in the manner that it has been operated in the past. Accordingly, management decided that rather than continuing to commit the resources and investment that would be required to continue to grow the Hexis business, the Company would sell the business and refocus the use of resources and its strategy on the Government Solutions business.

The Company has determined that the assets and liabilities of its Commercial Cyber Solutions business meet the held for sale criteria set forth in ASC 360 - Property, Plant, and Equipment, as (a) management with appropriate authority has committed to a plan to sell the disposal group, (b) the disposal group is available for immediate sale in its present condition, (c) actions to locate a buyer have been initiated, (d) management has concluded that the sale and transfer of the disposal is probable to occur within one year, (e) the disposal group is being actively marketed at a price that is reasonable in relation to its current fair value, and (f) management has concluded that it is unlikely that the company will make significant changes to or withdraw its plan to sell the disposal group.

ASC 360 requires a disposal group that is reclassified as held for sale, but not yet sold, to be measured at the lower of its carrying amount or fair value less cost to sell. In addition, an entity ceases to recognize depreciation on assets included in the disposal group that has been classified as held for sale. Based upon this guidance, we compared the carrying value of the Hexis business to our estimate of the disposal group’s fair value less cost to sell. Development of an estimate of the fair value of the disposal group in this circumstance is complex, as consideration must be given to the nature of the potential sales transaction(s); the composition of the disposal group; market participant expectations regarding the performance, risks, and required returns of and for the disposal group; and the expected results of ongoing negotiations with potential buyers of the business - amongst other factors. These considerations require the application of assumptions that are deemed to be Level 3 inputs on the fair value hierarchy. Based upon our estimate of the fair value of the disposal group less cost to sale, we determined that the carrying value of the Hexis business was greater than its fair value less cost to sell and, accordingly, we recorded an additional impairment charge of $7.0 million to our Commercial Cyber Solutions segment goodwill based on the asset purchase agreement and additional expense of $2.3 million representing the estimated cost to sell the disposal group. As a result we reduced the recorded carrying value of our Commercial Cyber Segment to $3.1 million.

We further note that from inception of the Hexis business through our decision to sell the business, we have been a relatively new participant in the commercial cyber security market. Accordingly, the Hexis business has historically required a significant amount of investment of the Company’s resources. The business has historically incurred losses and was expected to continue to include losses until we gained sufficient traction within the marketplace. Upon completion of the sale of the Hexis business, the Company will no longer offer or market any products or services to the commercial cyber security market and does not intend to make similar investments in the development of commercial cyber security products. After consideration of these factors, we have concluded that our decision to sell the Hexis business constitutes a strategic shift that is expected to have a major effect on our operations and financial results. Therefore, we have also reclassified the results of our Hexis business, which comprised our entire Commercial Cyber Solutions reportable segment, as discontinued operations for all periods presented in our financial statements. The results of our Commercial Cyber Solutions segment previously included the allocation of certain general corporate costs, which we have reallocated to our remaining continuing operations on a retrospective basis.

The following table summarizes the aggregate carrying amounts of the major classes of Hexis assets and liabilities that were classified as held for sale as of March 31, 2016 and December 31, 2015 (in thousands):



	March 31, 2016⁽¹⁾			December 31, 2015
Receivables	$	2,547		$	5,256
Inventories, net	3,252			2,164
Prepaid expenses	1,175			345
Property and equipment, net	4,964			5,341		⁽²⁾
Goodwill	487			7,467		⁽²⁾
Other intangibles, net	2,219			2,600		⁽²⁾
Estimated cost to sell disposal group	(2,275		)	—
Total assets classified as held for sale:	$	12,369		$	23,173

Accounts payable and other accrued expenses	$	4,628		$	3,686
Deferred revenue	4,676			3,398
Total liabilities held for sale	$	9,304		$	7,084

(1) On May 2, 2016 the Company closed on the sale of the assets of its Hawkeye AP product line; and expects the sale of the assets of the Hawkeye G product line to close in less than a year. Therefore, for the period ended March 31, 2016, all assets and liabilities held for sale are reported as current assets and liabilities held for sale on the Condensed Consolidated Balance Sheets.

(2) Amounts as of December 31, 2015, are reflected as part of the non-current assets and liabilities held for sale.

The following table provides a summary of the operating results of Hexis, which we have reflected as discontinued operations for the quarters ended March 31, 2016 and 2015 (in thousands):



	Three months ended March 31,
	2016		2015
Revenues	2,078		2,785
Costs of Revenues, excluding amortization	976		984
Operating expenses	9,275		10,156
Impairment of goodwill	6,980		—
Intangible amortization expense	381		1,279
Estimated cost to sell disposal group	2,275		—
Loss before Income Taxes from Discontinued Operations	(17,809	)	(9,634	)
Income Tax Benefit, net on Discontinued Operations	(490	)	(3,657	)
Loss on Discontinued Operations	(17,319	)	(5,977	)

The following table presents the operating and investing cash flows of our discontinued Hexis business as of March 31, 2016 and 2015 (in thousands):



	Three months ended March 31,
	2016			2015
Non-Cash Operating Items
Depreciation and amortization expense	$	1,016		$	1,893
Impairment of Commercial Cyber Solutions Goodwill	6,980			—
Loss recognized on classification as held for sale	2,275			—
Cash Flows from Investing Activities
Purchases of property and equipment	$	(417	)	$	(397	)

Other Dispositions

In March 2016, we completed the sale of our systems engineering and technical assistance (SETA) business to Quantech Services, Inc. for approximately $11 million in cash. The SETA business was not deemed an individually significant component of our Company. Management decided to sell the SETA business in connection with the ongoing strategic review of our overall business, through which we have determined that the growth potential of both KEYW's core business and the SETA business could be maximized if the two businesses were separated. The sale of SETA eliminated KEYW’s conflicts at two key government agencies and will allow our Company to focus 100% on technology development opportunities across the Intelligence Community. However, the sale of SETA did not represent a strategic shift that will have a major effect on our operations and financial results and, accordingly, the business historical results and the gain on sale were classified within continuing operations on our Condensed Consolidated Statements of Operations. Because the sale of SETA was not deemed a discontinued operation, its assets and liabilities of the business were not reclassified as held for sale on our December 31, 2015, balance sheet.

In connection with the sale of SETA, we recognized a preliminary pre-tax gain of approximately $3.7 million. This gain was reported within non-operating expense, net on our statement operations and reflects the difference between the consideration received for SETA and the net carrying value of the business less transaction costs. The net carrying value of the SETA business was preliminarily deemed to include approximately $7.2 million of goodwill that, in accordance with ASC 350, was allocated to the business based upon the relative fair values of SETA and the overall Government Solutions reporting unit within which the SETA business has been historically reported.