FORM 10-K
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 


 

FORM 10-K

 

¨ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

x TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from July 1, 2003 to December 31, 2003

 

Commission File Number 001-31451

 


 

BEARINGPOINT, INC.

(Exact name of registrant as specified in its charter)

 

DELAWARE    22-3680505

(State or other jurisdiction of

incorporation or organization)

  

(IRS Employer

Identification No.)

1676 International Drive, McLean, VA    22102
(Address of principal executive office)    (Zip Code)

 

(703) 747-3000

(Registrant’s telephone number, including area code)

 

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

 

Series A Junior Participating Preferred Stock Purchase Rights

 


 

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 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 Registrant’s knowledge, in definitive proxy or information incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

 

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).    YES  x    NO  ¨

 

As of June 30, 2003, the aggregate market value of the voting stock held by non-affiliates of the Registrant, based upon the closing price of such stock on the New York Stock Exchange on June 30, 2003, was $1.8 billion.

 

The number of shares of common stock of the Registrant outstanding as of April 1, 2004 was 196,399,468.

 


 


Table of Contents

TABLE OF CONTENTS

 

    

Description


   Page
Number


     Part I.     
Item 1.    Business    3
Item 2.    Properties    6
Item 3.    Legal Proceedings    7
Item 4.    Submission of Matters to a Vote of Security Holders    7
     Part II.     
Item 5.    Market for the Registrant’s Common Stock and Related Stockholder Matters    8
Item 6.    Selected Financial Data    8
Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations    10
Item 7A.    Quantitative and Qualitative Disclosures About Market Risk    37
Item 8.    Financial Statements and Supplementary Data    38
Item 9.   

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   87
Item 9A.    Controls and Procedures    87
     Part III.     
Item 10.    Directors and Executive Officers of the Registrant    88
Item 11.    Executive Compensation    91
Item 12.    Security Ownership of Certain Beneficial Owners and Management    96
Item 13.    Certain Relationships and Related Transactions    100
Item 14.    Principal Accountant Fees and Services    101
     Part IV.     
Item 15.    Exhibits, Financial Statement Schedules and Reports on Form 8-K    102
Signatures    108

 

 

2


Table of Contents

PART I.

 

Item 1. Business

 

  Item 1(a). General Development of Business.

 

BearingPoint, Inc. (formerly KPMG Consulting, Inc. and generally referred to below as “we” or the “Company”) was incorporated as a business corporation under the laws of the State of Delaware in 1999. Our principal offices are located at 1676 International Drive, McLean, Virginia 22102-4828. Our main telephone number is 703-747-3000. We previously were a part of KPMG LLP, one of the former “Big 5” accounting and tax firms. In January 2000, KPMG LLP transferred its consulting business to our Company. In February 2001, we completed our initial public offering, and on February 8, 2001, our common stock began to trade on the Nasdaq National Market under the ticker symbol “KCIN.” On October 2, 2002, we changed our name to BearingPoint, Inc. In connection with our name change, we moved to the New York Stock Exchange and began trading on October 3, 2002 under the new ticker symbol “BE.”

 

During the first quarter of the fiscal year ended June 30, 2003, we significantly expanded our European presence with the purchase of KPMG Consulting AG (subsequently renamed BearingPoint GmbH (“BE Germany”)), which included employees primarily in Germany, Switzerland and Austria. In addition, we furthered our global strategy by engaging in purchase business acquisitions relating to all or portions of selected Andersen Business Consulting practices in Brazil, Finland, France, Japan, Norway, Peru, Singapore, South Korea, Spain, Sweden, Switzerland, and in the United States, and the consulting practice of the KPMG International member firm in Finland. We also strengthened our Latin American business with the acquisition of Ernst & Young’s Brazilian consulting practice. By significantly expanding our global reach, we have improved our ability to serve our international clients, and have diversified our revenue base.

 

On February 2, 2004, our board of directors approved a change in our fiscal year end from a twelve-month period ending June 30 to a twelve-month period ending December 31. As a requirement of this change, the results for the six-month period from July 1, 2003 to December 31, 2003 are reported as a separate transition period.

 

  Item 1(b). Financial Information about Industry Segments.

 

Information required by Item 1(b) is incorporated herein by reference to Note 21, “Segment Information,” of the Notes to Consolidated Financial Statements included under Item 8 of this Transition Report.

 

  Item 1(c). Narrative Description of Business.

 

Overview

 

We are a large business consulting, systems integration and managed services firm with approximately 15,000 employees at December 31, 2003, serving Global 2000 companies, medium-sized businesses, government agencies and other organizations. We provide business and technology strategy, systems design, architecture, applications implementation, network, systems integration and managed services. Our service offerings are designed to help our clients generate revenue, reduce costs and access the information necessary to operate their businesses on a timely basis.

 

Industry Groups

 

Our focus on specific industries provides us with the ability to tailor our service offerings to reflect our understanding of the marketplaces in which our clients operate. Through June 30, 2003, we provided consulting

 

3


Table of Contents

services through five industry groups in which we have significant industry-specific knowledge. Effective July 1, 2003, we combined our Consumer and Industrial Markets and High Technology industry groups to form the Consumer, Industrial and Technology industry group. Our industry groups are as follows:

 

  Public Services assists public clients in process improvement, enterprise resource planning, managed services and Internet integration service offerings. This group also provides financial and economic advisory services to governments, corporations and financial institutions around the world. Our public services clients include federal government agencies, national, provincial, state and local governments, and private and public higher education institutions. In addition, this group provides services to public service healthcare agencies and private sector payor and provider companies.

 

  Communications & Content provides financial, operational and technical services to wireline and wireless communications carriers, public and private utilities, cable system operators and media and entertainment service providers. Our services assist clients with business strategy development, business process flow optimization, technology integration and asset preservation.

 

  Financial Services focuses on delivering strategic, operational and technology services, including new, component-based business and technical architectures that leverage existing application systems and e-business strategies and development, delivered through consumer and wholesale lines of business. Our clients in the financial services sector include banking, insurance, securities, real estate, hospitality and professional services institutions.

 

  Consumer, Industrial and Technology designs and delivers solutions to assist clients with business challenges such as pressure to reduce costs, industry consolidation, global competition and accelerated time-to-market. To meet these challenges, we support our clients by implementing enterprise systems and business processes, improving supply chain efficiency and visibility, capturing and integrating customer needs in customer management solutions, and implementing alternative business and systems strategies such as managed services. We provide our clients with actionable blueprints and experience in project management. We transfer knowledge to support the current and future business initiatives of our clients. Our Consumer, Industrial and Technology practice offers solutions to the Global 2000 and mid-market clients in these sectors: consumer; resources; and industrial/auto/technology.

 

International Operations

 

We have multinational operations covering North America, Latin America, the Asia Pacific region, and Europe, the Middle East and Africa (“EMEA”). We utilize this multinational network to provide consistent integrated services to our clients throughout the world.

 

For the six months ended December 31, 2003, our international operations represented 32.1% of our business (measured in revenue dollars), compared to 29.8%, 8.0% and 5.0% for the fiscal years ended June 30, 2003, 2002 and 2001, respectively.

 

For additional information regarding our international acquisitions, see “Overview” in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 6, “Acquisitions,” of the Notes to Consolidated Financial Statements.

 

Our Joint Marketing Relationships

 

As of December 31, 2003, we had approximately 60 joint marketing relationships with key technology providers that support and complement our service offerings. We have created joint marketing relationships to enhance our ability to provide our clients with high value services. Our joint marketing relationships typically entail some combination of commitments regarding joint marketing, sales collaboration, training and service offering development.

 

4


Table of Contents

Our most significant joint marketing and product development relationships are with Cisco Systems, Inc., Oracle Corporation, PeopleSoft, Inc., Microsoft Corporation, SAP AG, and Siebel Systems, Inc. We work together to develop comprehensive solutions to common business issues, offer the expertise required to deliver those solutions, develop new products, capitalize on joint marketing opportunities and remain at the forefront of technology advances. These joint marketing agreements help us to generate revenue since they provide a source of referrals and the ability to jointly target specific accounts.

 

Competition

 

We operate in a highly competitive and rapidly changing market and compete with a variety of organizations that offer services similar to those we offer. The market in which we operate includes a variety of participants, including specialized e-business consulting firms, systems consulting and implementation firms, former “Big 5” and other large accounting and consulting firms, application software firms providing implementation and modification services, service and consulting groups of computer equipment companies, outsourcing companies, systems integration companies, aerospace and defense contractors and general management consulting firms.

 

Some of our competitors have significantly greater financial, technical and marketing resources, generate greater revenue and have greater name recognition than we do. The competitive landscape is experiencing rapid changes. Over the past few years, some of the former “Big 5” accounting and consulting firms have sold their consulting businesses and another completed its initial public offering. These changes in our marketplace may create potentially larger and better capitalized competitors with enhanced abilities to attract and retain professionals. We also compete with our clients’ internal resources.

 

Our revenue is derived from Global 2000 companies, medium-sized companies, governmental organizations and other large enterprises. There is an increasing number of professional services firms competing for consulting engagements with these companies. We believe that the principal competitive factors in the consulting industry in which we operate include scope of services, service delivery approach, technical and industry expertise, perception of value added, objectivity of advice given, focus on achieving results, availability of appropriate resources and global reach.

 

Our ability to compete also depends in part on several factors beyond our control, including the ability of our competitors to hire, retain and motivate skilled professionals, the price at which others offer comparable services and our competitors’ responsiveness. There is a significant risk that this increased competition will adversely affect our financial results in the future.

 

Intellectual Property

 

Our success has resulted in part from our methodologies and other proprietary intellectual property rights. We rely upon a combination of nondisclosure and other contractual arrangements, trade secret, copyright and trademark laws to protect our proprietary rights and rights of third parties from whom we license intellectual property. We also enter into confidentiality and intellectual property agreements with our employees that limit the distribution of proprietary information. We currently have only a limited ability to protect our important intellectual property rights. We have only three issued patents in the United States to protect our products or methods of doing business.

 

Seasonality

 

Typically, client service hours, which translate into chargeable hours and directly affect revenue, are reduced during the second half of the calendar year (i.e., July 1 through December 31) due to the larger number of holidays and vacation time taken by our employees and our clients.

 

Customer Dependence

 

During the six months ended December 31, 2003 and the fiscal years ended June 30, 2003, 2002 and 2001, our revenue from the United States federal government was $424.7 million, $719.0 million, $606.1 million and

 

5


Table of Contents

$482.1 million, respectively, representing 27.3%, 22.9%, 25.6% and 16.9% of our total revenue. A loss of all of our contracts with the United States federal government would have a material adverse effect on our business. While most of our government agency clients have the ability to unilaterally terminate their contracts, our relationships are generally not with political appointees, and we have not historically experienced a loss of federal government business with a change of administration. For more information regarding risks associated with U.S. government contracts, see Exhibit 99.1, “Factors Affecting Future Financial Results,” to this Form 10-K.

 

Backlog

 

Although our level of bookings is an indication of how our business is performing, we do not characterize our bookings, or our engagement contracts associated with new bookings, as backlog because our engagements can generally be cancelled or terminated on short notice.

 

Compliance with Environmental Laws

 

Federal, state and local statutes and regulations relating to the protection of the environment have had no material adverse effect on our operating results or competitive position, and we anticipate that they will have no material adverse effect on our future operating results or competitive position in the industry.

 

Employees

 

Our future growth and success largely depends upon our ability to attract, retain and motivate qualified employees, particularly professionals with the advanced information technology skills necessary to perform the services we offer. Our professionals possess significant industry experience, understand the latest technology, and build productive business relationships. We are committed to the long-term development of our employees, and will continue to dedicate significant resources to our hiring, training and career advancement programs. We strive to reinforce our employees’ commitment to our clients, culture and values through a comprehensive performance review system and a competitive compensation philosophy that rewards individual performance and teamwork.

 

As of December 31, 2003, we had approximately 15,000 full-time employees, including approximately 13,000 professional consultants.

 

  Item 1(d). Financial Information About Geographic Areas.

 

Information required by Item 1(d) is incorporated herein by reference to Note 21, “Segment Information,” of the Notes to Consolidated Financial Statements included under Item 8 of this Transition Report. For a discussion of risks associated with our international operations, see Exhibit 99.1, “Factors Affecting Future Financial Results,” to this Form 10-K.

 

  Item 1(e). Available Information.

 

Our website address is www.bearingpoint.com. Copies of our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, as well as any amendments to those reports, are available free of charge through our website as soon as reasonably practicable after they are electronically filed with or furnished to the Securities and Exchange Commission. Information contained or referenced on our website is not incorporated by reference into and does not form a part of this Form 10-K.

 

Item 2. Properties

 

Our corporate headquarters is located in McLean, Virginia. This facility has approximately 229,000 square feet of office space. As of December 31, 2003, we leased approximately 1.6 million square feet of office space in approximately 85 locations throughout the United States. Some of the spaces we occupy are used for specific client contracts or development activities while administrative personnel and professional service personnel use

 

6


Table of Contents

other spaces. In addition, as of December 31, 2003, we had approximately 73 locations in Latin America, Canada, the Asia Pacific region and EMEA with approximately 1.2 million additional square feet of office space. All office space referred to above is leased under operating leases that expire over the next 10 years. Portions of office space are sublet under operating lease agreements, which expire during the next 10 years. We believe that our facilities are adequate to meet our needs for at least the next 12 months.

 

On August 14, 2003, we announced our plan to reduce our global office space usage in order to eliminate excess capacity and to align global office space usage with the current workforce and needs of the business. During the six months ended December 31, 2003, we recorded approximately $61.7 million in restructuring charges related to lease, facilities and other costs associated with exiting facilities. For additional information regarding the lease and facilities charges see Note 20, “Reduction in Workforce and Other Charges,” of the Notes to Consolidated Financial Statements.

 

Item 3. Legal Proceedings

 

Since August 14, 2003, various separate complaints purporting to be class actions were filed in the United States District Court for the Eastern District of Virginia alleging that we and certain of our officers violated Section 10(b) of the Securities Exchange Act of 1934 (the “Exchange Act”), Rule 10b-5 promulgated thereunder, and Section 20(a) of the Exchange Act. The complaints contain varying allegations, including that we made materially misleading statements with respect to our financial results for the first three quarters of fiscal year 2003 in our SEC filings and press releases. Plaintiffs’ Amended Consolidated Complaint was filed on December 31, 2003. Defendants’ Motion to Dismiss was filed on February 10, 2004. On March 31, 2004, the parties filed a stipulation requesting that the Court approve a settlement of this matter for $1.7 million, all of which is to be paid by our insurer. On April 2, 2004, the Court considered and gave preliminary approval to the proposed settlement agreement. We anticipate that notice of the settlement agreement will be sent to the purported class of shareholders in early May 2004.

 

In addition to the matters referred to above, we are from time to time the subject of lawsuits and other claims and regulatory proceedings arising in the ordinary course of our business. We do not expect that any of these matters, individually or in the aggregate, will have a material adverse effect on our financial position, results of operations or cash flows. Additional information regarding legal proceedings of the Company is incorporated by reference herein from Note 13, “Commitments and Contingencies,” of the Notes to Consolidated Financial Statements included under Item 8 of this Transition Report.

 

Item 4. Submission of Matters to a Vote of Security Holders

 

  (a) Our annual meeting of stockholders was held on November 4, 2003.

 

  (b) Randolph C. Blazer, Roderick C. McGeary and Alice M. Rivlin were nominated and elected as directors of the Company. Directors whose term of office continued after the meeting include Douglas C. Allred, Afshin Mohebbi, Wolfgang Kemna, Albert L. Lord and J. Terry Strange.

 

  (c) Certain matters voted upon at the meeting and the votes cast with respect to such matters are as follows:

 

Election of Directors

 

Director


   Votes
Received


   Votes
Withheld


Randolph C. Blazer

   163,996,135    10,531,472

Roderick C. McGeary

   117,703,827    56,823,780

Alice M. Rivlin

   168,006,550    6,521,057

 

7


Table of Contents

PART II.

 

Item 5. Market for the Registrant’s Common Stock and Related Stockholder Matters

 

Market Information

 

Prior to October 3, 2002, our common stock was listed on the Nasdaq National Market under the ticker symbol “KCIN.” On October 2, 2002, we changed our name to BearingPoint, Inc. and ceased trading on the Nasdaq National Market. On October 3, 2002, we moved to the New York Stock Exchange and began trading under the new ticker symbol “BE.” For information regarding high and low quarterly sales prices of our common stock, see the “Quarterly Summarized Financial Information” table included under Item 7 of this Transition Report.

 

Holders

 

At April 1, 2004, we had approximately 1,248 stockholders of record.

 

Dividends

 

We have never paid cash dividends on our common stock, and we do not anticipate paying any cash dividends on our common stock for at least the next 12 months. We intend to retain all of our earnings, if any, to finance the expansion of our business and for general corporate purposes. Our existing credit facilities contain financial covenants and restrictions, some of which directly or indirectly may limit our ability to pay dividends. Our future dividend policy will also depend on our earnings, capital requirements, financial condition and other factors considered relevant by our Board of Directors.

 

Item 6. Selected Financial Data

 

The selected financial data as of December 31, 2003 and June 30, 2003 and for the six months ended December 31, 2003 and the year ended June 30, 2003 is derived from the consolidated financial statements, which are included elsewhere in this Transition Report on Form 10-K, audited by PricewaterhouseCoopers LLP, independent auditors. The selected financial data as of June 30, 2002 and for the years ended June 30, 2002 and 2001 are derived from the consolidated financial statements, which are included elsewhere in this Transition Report on Form 10-K, audited by Grant Thornton, LLP, independent auditors. The selected financial data as of June 30, 2001, 2000 and 1999 and for the five months ended June 30, 2000, the seven months ended January 31, 2000 and the year ended June 30, 1999 are derived from the audited historical financial statements and related notes, audited by Grant Thornton, LLP, which are not included in this Transition Report on Form 10-K. Certain prior period amounts have been reclassified to conform with current period presentation. During the six months ended December 31, 2003, we recorded a goodwill impairment charge of $127.3 million related to our EMEA operating segment. During fiscal year 2003, we significantly expanded our international presence through a series of acquisitions. For additional information regarding the goodwill impairment charge and international acquisitions, see Note 5, “Goodwill and Other Intangible Assets,” and Note 6, “Acquisitions,” of the Notes to Consolidated Financial Statements, respectively. Selected financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and the related notes thereto included herein.

 

8


Table of Contents

Statements of Operations

 

    Consolidated

    Combined(1)

 
 
    Six Months
Ended
December 31,
2003


    Year Ended

   

Five
Months
Ended

June 30,

2000


   

Seven
Months
Ended
January 31,

2000


   

Year Ended
June 30,

1999


 
      June 30,
2003


   

June 30,

2002


   

June 30,

2001


       
    (in thousands, except per share amounts)     (in thousands)  
 

Revenue

  $ 1,554,431     $ 3,139,277     $ 2,367,627     $ 2,855,824     $ 1,105,166     $ 1,264,818     $ 1,981,536  
   


 


 


 


 


 


 


Costs of service:

                                                       

Costs of service

    1,239,721       2,406,414       1,742,861       2,133,250       817,800       897,173       1,381,518  

Lease and facilities charge

    61,686       17,592       —         —         —         —         —    

Impairment charges

    —         —         23,914       7,827       8,000       —         —    
   


 


 


 


 


 


 


Total costs of service

    1,301,407       2,424,006       1,766,775       2,141,077       825,800       897,173       1,381,518  

Gross profit

    253,024       715,271       600,852       714,747       279,366       367,645       600,018  

Amortization of purchased intangible assets

    10,651       44,702       3,014       —         —         —         —    

Amortization of goodwill

    —         —         —         18,176       5,210       4,398       4,321  

Goodwill impairment charge

    127,326       —         —         —         —         —         —    

Selling, general and administrative expenses

    273,775       556,097       464,806       475,090       201,720       231,270       341,424  

Special payment to managing directors(2)

    —         —         —         —         34,520       —         —    
   


 


 


 


 


 


 


Operating income (loss)

    (158,728 )     114,472       133,032       221,481       37,916       131,977       254,273  

Interest / Other income (expense), net

    (4,208 )     (15,406 )     1,554       (15,481 )     (10,567 )     (27,311 )     (25,268 )

Gain on sale of assets

    —         —         —         6,867       —         —         —    

Equity in losses of affiliate and loss on redemption of equity interest in affiliate

    —         —         —         (76,019 )     (15,812 )     (14,374 )     (622 )
   


 


 


 


 


 


 


Income before partner distributions and benefits(1)

                                          $

90,292

 

  $

228,383

 

Income (loss) before taxes

    (162,936 )     99,066       134,586       136,848       11,537                  

Income tax expense

    2,831       57,759       81,524       101,897       29,339                  
   


 


 


 


 


               

Income (loss) before cumulative effect of change in accounting principle

    (165,767 )     41,307       53,062       34,951       (17,802 )                

Cumulative effect of change in accounting principle, net of tax

    —         —         (79,960 )     —         —                    
   


 


 


 


 


               

Net income (loss)

    (165,767 )     41,307       (26,898 )     34,951       (17,802 )                

Dividend on Series A Preferred Stock

    —         —         —         (31,672 )     (25,992 )                

Preferred stock conversion discount

    —         —         —         (131,250 )     —                    
   


 


 


 


 


               

Net income (loss) applicable to common stockholders

  $ (165,767 )   $ 41,307     $ (26,898 )   $ (127,971 )   $ (43,794 )                
   


 


 


 


 


               

Earnings (loss) per share—basic and diluted:

                                                       

Income (loss) before cumulative effect of change in accounting principle applicable to common stockholders

  $ (0.86 )   $ 0.22     $ 0.34     $ (1.19 )   $ (0.58 )                

Cumulative effect of change in accounting principle

    —         —         (0.51 )     —         —                    
   


 


 


 


 


               

Net income (loss) applicable to common stockholders

  $ (0.86 )   $ 0.22     $ (0.17 )   $ (1.19 )   $ (0.58 )                
   


 


 


 


 


               
 
    Consolidated

    Combined

 
 
    December 31,
2003


   

June 30,

2003


    June 30,
2002


   

June 30,

2001


   

June 30,

2000


   

June 30,

1999


 
                (in thousands)              

Balance Sheet Data

                                               

Total assets

  $ 2,129,447     $ 2,066,404     $ 914,170     $ 1,047,048     $ 972,488       $492,191  

Long-term liabilities

    368,393       346,284       12,286       13,468       76,602           22,860  

Series A Mandatorily Redeemable Convertible Preferred Stock

    —         —         —         —         1,050,000                —    

(1) As a partnership, all of KPMG LLP’s earnings were allocable to its partners. Accordingly, distributions and benefits to partners have not been reflected as an expense in our historical partnership basis financial statements through January 31, 2000. As a corporation, effective February 1, 2000, payments for services rendered by our Managing Directors are included as professional compensation. Likewise, as a corporation, we are subject to corporate income taxes effective February 1, 2000.
(2) For the period from January 31, 2000 through June 30, 2000, the profits of KPMG LLP and our Company were allocated among the partners of KPMG LLP and our Managing Directors as if the entities had been combined through June 30, 2000. Under this agreement, our Managing Directors received a special payment of $34.5 million by our Company for the five-month period ended June 30, 2000.

 

9


Table of Contents
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The following discussion and analysis should be read in conjunction with the consolidated financial statements and the notes to consolidated financial statements included elsewhere in this Form 10-K. This Transition Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. See the “Disclosure Regarding Forward-Looking Statements.” All references to “years,” unless otherwise noted, refer to our twelve-month fiscal year, which prior to July 1, 2003, ended on June 30. For example, a reference to “2003” or “fiscal year 2003” means the twelve-month period that ended on June 30, 2003.

 

Overview

 

We are a large business consulting, systems integration and managed services firm, serving Global 2000 companies, medium-sized businesses, government agencies and other organizations. We provide business and technology strategy, systems design, architecture, applications implementation, network, systems integration and managed services. Our service offerings are designed to help our clients generate revenue, reduce costs and access the information necessary to operate their business on a timely basis.

 

We provide consulting services through industry groups in which we have significant industry-specific knowledge. Our focus on specific industries provides us with the ability to tailor our service offerings to reflect our understanding of the marketplaces in which our clients operate. We have multinational operations covering North America, Latin America, the Asia Pacific region, and Europe, the Middle East and Africa (“EMEA”). We utilize this multinational network to provide consistent integrated services to our clients throughout the world.

 

On February 2, 2004, our board of directors approved a change in our fiscal year end from a twelve-month period ending June 30 to a twelve-month period ending December 31. As a requirement of this change, the results for the six-month period from July 1, 2003 to December 31, 2003 are reported as a separate transition period.

 

Several external factors directly influence our ability to generate business. The economic conditions in the industries and regions we serve are a significant factor affecting the results of our operations. The pace of technological change and the type and level of technology spending by our clients also drive our business. Changes in business requirements and practices of our clients have a significant impact on the demand for the technology consulting and systems integration services we provide.

 

We derive substantially all of our revenue from professional services activities. Our revenue is driven by our ability to continuously generate new opportunities, by the prices we obtain for our service offerings, and by the size and chargeability, or utilization, of our professional workforce. Our revenue includes all amounts that are billed or billable to clients, including out-of-pocket costs such as travel and subsistence for client service professional staff, costs of hardware and software, and costs of subcontractors (collectively referred to as “other direct contract expenses”).

 

Our revenue for the six months ended December 31, 2003 was $1,554.4 million. This represents an increase in revenue of $14.2 million, or 0.9%, from revenue generated during the six months ended December 31, 2002 of $1,540.3 million. When compared to the six months ended December 31, 2002, revenue for our international regions increased $69.6 million, while revenue for our North America region declined $57.8 million. Revenue for our international regions increased predominantly due to the effect of currency exchange-rate fluctuations on reported revenue and the positive impact of international acquisitions made during the first quarter of fiscal year 2003, while revenue for our North America region declined primarily due to slower economic conditions, pricing pressures and competition for new engagements.

 

10


Table of Contents

As a multinational company, our international operations, whose functional currency is the local currency, may be significantly affected by currency exchange-rate fluctuations. The strengthening of foreign currencies (primarily the Euro) against the U.S. dollar has resulted in a currency translation that has increased our reported U.S. dollar revenue and expense items during the six months ended December 31, 2003. In constant currency terms, our consolidated revenue for the six months ended December 31, 2003 has decreased $44.4 million, or 2.9%, when compared to the six months ended December 31, 2002. As mentioned above, this decrease was predominantly due to a decline in revenue for our North America region, partially offset by the positive impact of acquisitions made during the first quarter of fiscal year 2003. The impact of currency exchange-rate fluctuations on our income before taxes was less than 1.0% for the six months ended December 31, 2003. A weakening of foreign currencies against the U.S. dollar could reduce reported revenue and expense items during future periods.

 

Commencing with our first acquisition of an international practice (Mexico) in December 1999, we have been executing a strategy to develop a global business platform primarily through acquisitions (all of the transactions referred to below are accounted for as purchase business acquisitions, and will therefore be referred to in this Form 10-K as “acquisitions”). During fiscal year 2003, we significantly expanded our European presence with the purchase of KPMG Consulting AG (subsequently renamed BearingPoint GmbH (“BE Germany”)), which included approximately 3,000 employees primarily in Germany, Switzerland and Austria. We furthered our global strategy, enabling us to better serve our multinational clients, by acquiring all, or portions of selected Andersen Business Consulting practices in Brazil, Finland, France, Japan, Norway, Peru, Singapore, South Korea, Spain, Sweden, Switzerland and in the United States, and the consulting practice of the KPMG International member firm in Finland. In addition, we strengthened our Latin American business with the acquisition of Ernst & Young’s Brazilian consulting practice. Through December 31, 2003, we have completed 31 acquisitions. For the six months ended December 31, 2003, international operations outside North America represented 32.1% of our business (measured in revenue dollars), compared to 29.8%, 8.0% and 5.0% for the years ended June 30, 2003, 2002 and 2001, respectively.

 

During the six-month period ended December 31, 2003, we determined that a triggering event had occurred in our EMEA reporting unit, causing us to perform a goodwill impairment test. The triggering event resulted from adverse changes in the business climate affecting our European operations, which caused our operating profit and cash flows for the EMEA reporting unit to be lower than expected for the six months ended December 31, 2003. In response to this challenging economic environment in Europe, we revised our EMEA growth expectations and anticipated operational efficiencies for the next five years. As a result of the impairment test, we recorded a goodwill impairment charge of $127.3 million ($0.66 per share) since the carrying amount of our EMEA reporting unit was greater than the estimated fair value of the reporting unit (as determined using the expected present value of future cash flows) and the carrying amount of the reporting unit goodwill exceeded the implied fair value of that goodwill. Although we lowered growth expectations for the European region, we continue to forecast future growth and overall profitability throughout EMEA. We also determined that there were no triggering events within our other reporting units that would have required further valuation analysis of goodwill.

 

The sustained economic downturn during calendar year 2003 has continued to negatively affect the operations of some of our clients and, in turn, impact their information technology (IT) spending. During this time, competition for new engagements has remained strong. Despite the cautious IT spending and competition for new engagements, our bookings remained solid during the six months ended December 31, 2003, with a positive book-to-bill ratio in six out of seven of our business units. The focus of our dedicated sales force and strong relationships with key accounts has enabled us to maintain strong bookings.

 

We continue to experience pricing pressures as competition for new engagements remains strong and as movements toward the use of lower-cost service delivery personnel continue to grow within our industry. Despite pricing pressures, we improved or substantially maintained our billing rates across all regions. Billing rates for our North American operations remained steady for the six months ended December 31, 2003, declining 1.2% when compared to the six months ended December 31, 2002. Billing rates for our EMEA and Asia Pacific

 

11


Table of Contents

operations improved 10.3% and 15.1%, respectively, during the six months ended December 31, 2003 when compared to the same period during the prior year, while billing rates for our Latin America operations remained steady. Our global presence and experienced, highly skilled workforce have enabled us to successfully differentiate our value and capabilities from those of our competitors, in effect, lessening the impact of current market pricing pressures. We anticipate continued pricing pressures going forward; however, we are working to maintain our margins by complementing our solutions offerings with greater offshore capabilities.

 

On February 11, 2004, we announced the opening of our India Global Development Center (“GDC”). Our new India GDC, along with our existing China GDC, deliver high quality, low cost software development and IT services to our global clients as part of our Global Technology Services (“GTS”). Our GDCs utilize lower-cost, highly skilled, offshore development staff to develop, support, and maintain our clients’ software applications. As our GTS capabilities continue to grow, we can rely less on the use of subcontractors to complete engagements, which should result in improvement in our overall profit margin.

 

We also have responded to the overall challenging business conditions by focusing on a variety of revenue growth and cost control initiatives, including continued evaluation of the size of our workforce and our required office space in relation to overall client demand for services, eliminating excess capacity and aggressively reducing discretionary costs to lower the cost of operations and maintain profit margins.

 

Gross profit for the six months ended December 31, 2003 was $253.0 million compared with $368.3 million for the six months ended December 31, 2002. Gross profit as a percentage of revenue decreased to 16.3% during the current period compared to 23.9% during the six months ended December 31, 2002. The decline in gross profit as a percentage of revenue is due in part to a $13.6 million charge related to a reduction in workforce recorded during the current period and the $61.7 million charge for lease, facilities and other exit costs recorded during the period related to our previously announced reduction in office space.

 

The reduction in workforce charge recorded during the current period was the result of our effort to align our workforce with market demand for services. As of December 31, 2003, we have approximately 15,000 employees, including approximately 13,000 client service personnel. Our ability to maintain the chargeability, or utilization, of our client service personnel directly impacts our revenue. Utilization represents the percentage of time spent by our client service personnel on billable work. Our utilization during the six months ended December 31, 2003 improved across all regions when compared to utilization during the six months ended December 31, 2002. Utilization within our North America, EMEA, Asia Pacific and Latin America regions increased 7.3%, 5.6%, 11.1% and 1.3%, respectively, when compared to the six months ended December 31, 2002. This increase is primarily the result of aligning our workforce with market demand for services and successfully integrating our personnel acquired through acquisitions made during the first quarter of fiscal year 2003. We have successfully achieved savings in professional compensation expense as a result of our workforce reduction actions. Overall, we believe that our workforce is in line with market demand for services and the needs of the business; however, as economic conditions begin to rebound in certain markets, we will continue to hire qualified employees with the advanced information technology skills necessary to perform the services we offer.

 

During the current period we recorded a $61.7 million charge for lease, facilities, and other exit costs in order to reduce our overall office space in an effort to eliminate excess capacity and to align our office space usage with our current workforce and the needs of the business. We expect to incur additional lease and facilities charges of approximately $8 million to $10 million during the first half of calendar year 2004. Our office space reduction efforts are expected to result in a reduction of our calendar year 2004 occupancy costs of approximately $20 million.

 

For the six months ended December 31, 2003, we recorded a loss before taxes of $162.9 million and provided for income taxes of $2.8 million, resulting in a negative effective tax rate of 1.7%. Our effective tax rate continues to be negatively affected by unusable losses in our foreign operations. Additionally, due to a

 

12


Table of Contents

history of losses and restrictions under tax laws, generally no tax benefit can be recognized in connection with the $127.3 million current period goodwill impairment charge. Our profitable operations continue to be concentrated in relatively high tax rate jurisdictions, which results in tax expense being generated on our overall consolidated loss for the period.

 

Segments

 

Through fiscal year 2002, we conducted operations within five reportable segments. Our reportable segments were representative of the five major industry groups in which we have industry-specific knowledge, including Public Services, Communications & Content, Financial Services, Consumer and Industrial Markets and High Technology. Upon completion of a series of international acquisitions during the first quarter of fiscal year 2003, we established three international operating segments (EMEA and the Asia Pacific and Latin America regions). Effective July 1, 2003, we combined our Consumer and Industrial Markets and High Technology industry groups to form the Consumer, Industrial and Technology industry group. For the six months ended December 31, 2003, we have seven reportable segments in addition to the Corporate/Other category (which consists primarily of infrastructure costs). Our chief operating decision maker, the Chairman and Chief Executive Officer, evaluates performance and allocates resources based upon the segments. Accounting policies of the segments are the same as those described in Note 2, “Summary of Significant Accounting Policies,” of the Notes to Consolidated Financial Statements. Upon consolidation, all intercompany accounts and transactions are eliminated. Inter-segment revenue is not included in the measure of profit or loss and total assets for each reportable segment. Performance of the segments is evaluated based on operating income excluding the costs of infrastructure functions (such as information systems, finance and accounting, human resources, legal and marketing) as described in Note 21, “Segment Information,” of the Notes to Consolidated Financial Statements. Prior year segment information has been reclassified to reflect current year presentation.

 

Significant Components of Our Statements of Operations

 

Revenue. We derive substantially all of our revenue from professional service activities. Revenue includes all amounts that are billed or billable to clients, including out-of-pocket costs such as travel and subsistence for client service professional staff, costs of hardware and software and costs of subcontractors (collectively referred to as “other direct contract expenses”). Unbilled revenue represents revenue for services performed that have not been billed. Billings in excess of revenue recognized are recorded as deferred revenue until the applicable revenue recognition criteria are met. We recognize revenue when it is realized or realizable and earned. We consider revenue to be realized or realizable and earned when persuasive evidence of an arrangement exists, services have been rendered, fees are fixed or determinable, and collection of revenue is reasonably assured. We generally enter into long-term, fixed-price, time-and-materials and cost-plus contracts to design, develop or modify multifaceted, client specific information technology systems. We generally recognize the majority of our revenue on a time-and-materials or percentage-of-completion basis as services are provided (See Note 2, “Summary of Significant Accounting Policies,” of the Notes to Consolidated Financial Statements).

 

We enter into contracts with our clients that contain varying terms and conditions. These contracts generally provide that they can be terminated without significant advance notice or penalty. Generally, in the event that a client terminates a project, the client remains obligated to pay for services performed and expenses incurred by us through the date of termination.

 

Costs of Service. Our costs of service generally include professional compensation and other direct contract expenses, as well as costs attributable to the support of client service professional staff, depreciation and amortization costs related to assets used in revenue-generating activities, bad debt expense relating to accounts receivable, and other costs attributable to serving our client base. Professional compensation consists of payroll costs and related benefits associated with client service professional staff (including costs associated with reductions in workforce). Other direct contract expenses include costs directly attributable to client engagements. These costs include out-of-pocket costs such as travel and subsistence for client service professional staff, costs

 

13


Table of Contents

of hardware and software and costs of subcontractors. Additionally, our costs of service include restructuring or impairment charges related to assets used in revenue-generating activities, such as costs incurred associated with our office space reduction effort.

 

Amortization of Purchased Intangible Assets. Amortization of purchased intangible assets represents the amortization expense on identifiable intangible assets related to customer and market-related intangible assets, which resulted from the various acquisitions of businesses.

 

Goodwill Impairment Charge. Goodwill impairment charges represent the amount by which the carrying value of our goodwill exceeded the implied fair value of our goodwill as measured in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets” (see Note 2, “Summary of Significant Accounting Policies,” of the Notes to Consolidated Financial Statements).

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses include costs related to marketing, information systems, depreciation and amortization, finance and accounting, human resources, sales force, and other expenses related to managing and growing our business. During fiscal year 2003, selling, general and administrative expenses also included costs associated with our rebranding effort.

 

Interest Income (Expense), Net. Interest expense reflects interest incurred on our borrowings, including interest incurred on private placement senior notes, borrowings under revolving lines of credit and borrowings under foreign currency denominated term loans. Interest income represents interest earned on short-term investments of available cash and cash equivalents.

 

Income Tax Expense. Our effective tax rate is significantly impacted by our level of pre-tax earnings and non-deductible expenses. Accordingly, if our pre-tax earnings grow and non-deductible expenses grow at a slower rate or decrease, our effective tax rate will decrease. Due to our high level of non-deductible travel-related expenses and unusable foreign tax losses and credits, our effective tax rate exceeds statutory rates.

 

Critical Accounting Policies and Estimates

 

The preparation of our consolidated financial statements in conformity with generally accepted accounting principles in the United States requires that management make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Management’s estimates and assumptions are derived and continually evaluated based on available information, reasonable judgment and the Company’s experience. Because the use of estimates is inherent in the financial reporting process, actual results could differ from those estimates. Accounting policies and estimates that management believes are most critical to the Company’s financial condition and operating results pertain to revenue recognition (including estimates of costs to complete engagements); valuation of accounts receivable; valuation of goodwill; and effective income tax rates. See Note 2, “Summary of Significant Accounting Policies,” of the Notes to Consolidated Financial Statements for descriptions of these and other significant accounting policies.

 

Revenue Recognition. We earn revenue from a range of consulting services, including, but not limited to, business and technology strategy, systems design, architecture, applications implementation, network, systems integration and managed services. Revenue includes all amounts that are billed or billable to clients, including out-of-pocket costs such as travel and subsistence for client service professional staff, costs of hardware and software and costs of subcontractors (collectively referred to as “other direct contract expenses”). Unbilled revenue consists of recognized recoverable costs and accrued profits on contracts for which billings had not been presented to the clients as of the balance sheet date. Management anticipates that the collection of these amounts will occur within one year of the balance sheet date, with the exception of approximately $19.1 million related to various long-term contracts with certain government agencies. Billings in excess of revenue recognized are recorded as deferred revenue until the applicable revenue recognition criteria are met.

 

14


Table of Contents

Services: We generally enter into long-term, fixed-price, time-and-materials, and cost-plus contracts to design, develop or modify multifaceted client-specific information technology systems. Such arrangements represent a significant portion of our business and are accounted for in accordance with AICPA Statement of Position (“SOP”) 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.” Arrangements accounted for under SOP 81-1 must have a binding, legally enforceable contract in place before revenue can be recognized. Revenue under fixed-price contracts is generally recognized using the percentage-of-completion method based upon costs to the client incurred as a percentage of the total estimated costs to the client. Revenue under time-and-materials contracts is based on fixed billable rates for hours delivered plus reimbursable costs. Revenue under cost-plus contracts is recognized based upon reimbursable costs incurred plus estimated fees earned thereon.

 

We also enter into fixed-price and time-and-materials contracts to provide general business consulting services, including, but not limited to, systems selection or assessment, feasibility studies, and business valuation and corporate strategy services. Such arrangements are accounted for in accordance with Staff Accounting Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements,” as amended by SAB No. 104, “Revenue Recognition.” Revenue from such arrangements is recognized when; i) there is persuasive evidence of an arrangement; ii) the fee is fixed or determinable; iii) services have been rendered and payment has been contractually earned, and; iv) collectibility of the related receivable or unbilled revenue is reasonably assured.

 

Additionally, we enter into arrangements in which we manage, staff, maintain, host or otherwise run solutions and systems provided to the client. Revenue from these types of arrangements is typically recognized on a ratable basis as earned over the term of the service period.

 

We periodically perform reviews of estimated revenue and costs on all of our contracts at an individual engagement level to assess whether they are consistent with initial assumptions. Any changes to estimates are recognized on a cumulative catch-up basis in the period in which the change is identified. Losses on contracts are recognized when identified.

 

Software: We enter into a limited number of software licensing arrangements. We recognize software license fee revenue in accordance with the provisions of SOP 97-2, “Software Revenue Recognition” and its related interpretations. Our software licensing arrangements typically include multiple elements, such as software products, post-contract customer support, and consulting and training services. The aggregate arrangement fee is allocated to each of the undelivered elements based upon vendor-specific evidence of fair value (“VSOE”), with the residual of the arrangement fee allocated to the delivered elements. VSOE for each individual element is determined based upon prices charged to customers when these elements are sold separately. Fees allocated to each software element of the arrangement are recognized as revenue when the following criteria have been met; i) persuasive evidence of an arrangement exists; ii) delivery of the product has occurred; iii) the license fee is fixed or determinable, and; iv) collectibility of the related receivable is probable. If evidence of fair value of the undelivered elements of the arrangement does not exist, all revenue from the arrangement is deferred until such time as evidence of fair value does exist, or until all elements of the arrangement are delivered. Fees allocated to post-contract customer support are recognized as revenue ratably over the term of the support period. Fees allocated to other services are recognized as revenue as the services are performed. Revenue from monthly license charge or hosting arrangements is recognized on a subscription basis over the period in which the client uses the product.

 

Multiple-Element Arrangements for Service Offerings: In certain arrangements, we enter into contracts that include the delivery of a combination of two or more of our service offerings. Such arrangements are accounted for in accordance with Emerging Issues Task Force (“EITF”) Issue 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.” Typically, such multiple-element arrangements incorporate the design, development or modification of systems and an ongoing obligation to manage, staff, maintain, host or otherwise run solutions and systems provided to the client. Such contracts are divided into separate units of accounting, and the total arrangement fee is allocated to each unit based on its relative fair value. Revenue is recognized separately, and in accordance with our revenue recognition policy, for each element.

 

15


Table of Contents

Valuation of Accounts Receivable. Periodically, we review accounts receivable to reassess our estimates of collectibility. We provide valuation reserves for bad debts based on specific identification of likely and probable losses. In addition, we provide valuation reserves for estimates of aged receivables that may be written off based upon historical experience. These valuation reserves are periodically reevaluated and adjusted as more information about the ultimate collectibility of accounts receivable becomes available. Circumstances that could cause our valuation reserves to increase include changes in our clients’ liquidity and credit quality, other factors negatively impacting our clients’ ability to pay their obligations as they come due, and the quality of our collection efforts.

 

Valuation of Goodwill. Effective July 1, 2001, the Company early-adopted the new accounting principle related to goodwill, SFAS No. 142. As a consequence, we recognized a transitional impairment loss of $80.0 million, net of tax, ($0.51 per share) as the cumulative effect of a change in accounting principle. This transitional impairment loss resulted from the change in method of measuring impairments.

 

Upon adoption of SFAS No. 142, goodwill is no longer amortized, but instead tested for impairment at least annually. The first step of the goodwill impairment test is a comparison of the fair value of a reporting unit to its carrying value. The fair value of a reporting unit is the amount for which the unit as a whole could be bought or sold in a current transaction between willing parties. The goodwill impairment test requires us to identify our reporting units and obtain estimates of the fair values of those units as of the testing date. Our reporting units are our North American industry groups and our international geographic regions. We estimate the fair values of our reporting units using discounted cash flow valuation models. Those models require estimates of future revenue, profits, capital expenditures and working capital for each unit. We estimate these amounts by evaluating historical trends, current budgets, operating plans and industry data. We conduct our annual impairment test as of April 1 of each year. The timing and frequency of our goodwill impairment test is based on an ongoing assessment of events and circumstances that would more than likely reduce the fair value of a reporting unit below its carrying value. We monitor our goodwill balance for impairment and conduct formal tests when impairment indicators are present. A decline in the fair value of any of our reporting units below its carrying value is an indicator that the underlying goodwill of the unit is potentially impaired. This situation would require the second step of the goodwill impairment test to determine whether the reporting unit’s goodwill is impaired. The second step of the goodwill impairment test is a comparison of the implied fair value of a reporting unit’s goodwill to its carrying value. An impairment loss is required for the amount by which the carrying value of a reporting unit’s goodwill exceeds its implied fair value. The implied fair value of the reporting unit’s goodwill would then become the new cost basis of the unit’s goodwill.

 

Effective Income Tax Rates. Determining effective income tax rates is highly dependent upon management estimates and judgments, particularly at each interim reporting date. Circumstances that could cause our estimates of effective income tax rates to change include restrictions on the use of the Company’s foreign subsidiary losses to reduce the Company’s tax burden; actual and projected pre-tax income; changes in law; and audits by taxing authorities.

 

Financial Statement Presentation

 

The consolidated financial statements reflect the operations of the Company and all of its majority-owned subsidiaries. Upon consolidation, all significant intercompany accounts and transactions are eliminated. Certain of the Company’s consolidated foreign subsidiaries within EMEA and the Asia Pacific region report their results of operations on a one-month lag.

 

On February 2, 2004, we changed our fiscal year end from a twelve-month period ending June 30 to a twelve-month period ending December 31. As a requirement of this change, the results for the six-month period from July 1, 2003 to December 31, 2003 are reported as a separate transition period within the consolidated financial statements. Accordingly, management’s discussion and analysis of financial condition and results of operations will: (i) compare the audited results of operations for the six months ended December 31, 2003 to the

 

16


Table of Contents

unaudited results of operations for the six months ended December 31, 2002; (ii) compare the results of operations for the fiscal year ended June 30, 2003 to the results of operations for the fiscal year ended June 30, 2002; (iii) compare the results of operations for the fiscal year ended June 30, 2002 to the results of operations for the fiscal year ended June 30, 2001; and (iv) discuss the Company’s liquidity and capital resources as of December 31, 2003.

 

Results of Operations

 

The following table presents certain financial information for the six months ended December 31, 2003 and 2002, respectively.

 

     Six Months Ended December 31,

 
     2003

    2002

 
           (unaudited)  

Revenue

   $ 1,554,431     $ 1,540,272  
    


 


Costs of service:

                

Professional compensation

     689,770       689,009  

Other direct contract expenses

     420,444       341,663  

Lease and facilities charge

     61,686       2,265  

Other costs of service

     129,507       139,001  
    


 


Total costs of service

     1,301,407       1,171,938  
    


 


Gross profit

     253,024       368,334  

Amortization of purchased intangible assets

     10,651       19,334  

Goodwill impairment charge

     127,326       —    

Selling, general and administrative expenses

     273,775       283,581  
    


 


Operating income (loss)

     (158,728 )     65,419  

Interest/Other income (expense), net

     (4,208 )     (4,615 )
    


 


Income (loss) before taxes

     (162,936 )     60,804  

Income tax expense

     2,831       33,944  
    


 


Net income (loss)

   $ (165,767 )   $ 26,860  
    


 


Earnings (loss) per share—basic and diluted

   $ (0.86 )   $ 0.15  
    


 


Weighted average shares—basic

     193,596,759       180,278,748  
    


 


Weighted average shares—diluted

     193,596,759       180,408,595  
    


 


 

17


Table of Contents

The following tables present certain financial information and performance metrics for each of the Company’s reportable segments.

 

     Six Months
Ended
December 31,
2003


    Year Ended June 30,

 
       2003

    2002

    2001

 
           (in thousands)        

Revenue:

                                

Public Services

   $ 575,025     $ 1,094,754     $ 966,422     $ 871,597  

Communications & Content

     140,460       350,694       473,269       551,089  

Financial Services

     120,664       236,773       229,993       463,930  

Consumer, Industrial and Technology

     215,592       523,943       505,895       826,881  

EMEA

     289,295       567,581       16,089       18,311  

Asia Pacific

     163,287       293,214       128,145       60,620  

Latin America

     47,068       73,743       44,054       62,800  

Corporate/Other

     3,040       (1,425 )     3,760       596  
    


 


 


 


     $ 1,554,431     $ 3,139,277     $ 2,367,627     $ 2,855,824  
    


 


 


 


Revenue %:

                                

Public Services

     37 %     35 %     41 %     31 %

Communications & Content

     9 %     11 %     20 %     19 %

Financial Services

     8 %     8 %     10 %     16 %

Consumer, Industrial and Technology

     14 %     17 %     21 %     29 %

EMEA

     19 %     18 %     1 %     1 %

Asia Pacific

     10 %     9 %     5 %     2 %

Latin America

     3 %     2 %     2 %     2 %

Corporate/Other

     n/m       n/m       n/m       n/m  
    


 


 


 


       100 %     100 %     100 %     100 %
    


 


 


 


Gross Profit:

                                

Public Services

   $ 177,650     $ 350,237     $ 342,198     $ 277,145  

Communications & Content

     35,710       112,892       141,592       161,686  

Financial Services

     35,018       69,262       46,771       91,819  

Consumer, Industrial and Technology

     49,749       142,171       152,239       263,671  

EMEA

     34,960       108,963       1,917       680  

Asia Pacific

     37,397       49,004       11,151       8,069  

Latin America

     9,246       23,465       3,212       (8,089 )

Corporate/Other(1)

     (126,706 )     (140,723 )     (98,228 )     (80,234 )
    


 


 


 


     $ 253,024     $ 715,271     $ 600,852     $ 714,747  
    


 


 


 


Gross Profit %:

                                

Public Services

     31 %     32 %     35 %     32 %

Communications & Content

     25 %     32 %     30 %     29 %

Financial Services

     29 %     29 %     20 %     20 %

Consumer, Industrial and Technology

     23 %     27 %     30 %     32 %

EMEA

     12 %     19 %     12 %     4 %

Asia Pacific

     23 %     17 %     9 %     13 %

Latin America

     20 %     32 %     7 %     (13 %)

Corporate/Other(1)

     n/m       n/m       n/m       n/m  
    


 


 


 


       16 %     23 %     25 %     25 %
    


 


 


 



(1) Corporate/Other operating loss is principally due to infrastructure and shared services costs.

n/m=not meaningful

 

18


Table of Contents

Six Months Ended December 31, 2003 Compared to Six Months Ended December 31, 2002

 

Revenue. Revenue increased $14.2 million, or less than 1.0%, from $1,540.3 million during the six months ended December 31, 2002, to $1,554.4 million during the six months ended December 31, 2003. The increase in revenue was primarily attributable to an increase in revenue within our international operating segments totaling $69.6 million, offset by a decline in North America revenue of $57.8 million. Revenue from our international operations for the six months ended December 31, 2003 was $499.7 million, an increase of 16.2% when compared to the same period in the prior year. Our international operations experienced a 6.4% increase in engagement hours as well as a 9.2% increase in average billing rates. Our North America revenue for the six months ended December 31, 2003 of $1,051.7 million declined 5.2% when compared to the same period in the prior year. The decline in our North America revenue was primarily the result of a slow economy and cautious IT spending. In North America, we experienced a 4.0% decrease in engagement hours as well as 1.2% decrease in our average billing rates.

 

Although our revenue for the six months ended December 31, 2003 remained relatively flat when compared to the six months ended December 31, 2002, we are beginning to see many positive economic indicators in the U.S. and internationally, however, growth in IT spending remains isolated to certain specific markets and regions. Despite the cautious IT spending, our bookings have remained solid, with a positive book-to-bill ratio in six out of our seven business units during the six months ended December 31, 2003. Our workforce is experiencing healthy utilization, with a growing need to hire additional employees with advanced skill sets in rebounding markets. As revenues increase, our goal is to first increase utilization and then to increase headcount. Although billing rates have generally held steady for the Company as a whole, we continue to face rate pressures due to client return-on-investment demands and competitor pricing. We anticipate rate pressures to continue going forward; therefore we remain focused on differentiating our values and capabilities from those of our competitors, and look to complement our solutions offerings with greater offshore capabilities in order to maintain profit margins.

 

Public Services, the Company’s largest business unit, generated revenue during the six months ended December 31, 2003 of $575.0 million, representing an increase of $40.1 million, or 7.5%, over the six months ended December 31, 2002. This increase was predominantly the result of growth in the Federal business sector, driven by success on international engagements. Revenue for our State, Local & Education (SLED) business sector decreased due to the impact of state budget and spending constraints. Overall, our Public Services business unit experienced increases in both engagement hours and billing rates of 2.6% and 4.7%, respectively, despite both client-driven and competitor-driven pricing pressures. Our Public Services business unit maintained a strong win rate during the six months ended December 31, 2003, as we were awarded 9 out of 10 large North American projects that we competed for during the period.

 

The Communications & Content business unit generated revenue of $140.5 million during the six months ended December 31, 2003, representing a decline of $46.6 million, or 24.9%, from the six months ended December 31, 2002. This decline was primarily the result of our completion of several large contracts involving testing related to compliance with the 1996 Telecommunications Act. While engaged on compliance testing contracts, certain clients decided to curtail the Company’s involvement in non-compliance related projects. Due to the exhaustive nature and extent of the compliance testing, we do not expect these clients to engage our Company for many of their future projects, as such, engagement hours have declined 17.0%. In addition, pricing pressures within the communications industry have resulted in a 9.5% decrease in billing rates. Although the Communications & Content pipeline is growing, we do not expect to see growth in this business unit late in calendar year 2004.

 

Our Financial Services business unit generated revenue during the six months ended December 31, 2003 of $120.7 million, representing growth of $3.9 million, or 3.3% over the six months ended December 31, 2002. The increase in revenue was principally due to a 2.9% increase in engagement hours and an increase in reimbursable

 

19


Table of Contents

out-of-pocket engagement costs. The Financial Services business unit experienced significant growth in the Banking & Insurance sector, which was partially offset by a decline in the Global Markets sector. Billing rates for the six months ended December 31, 2003 remained consistent with the same period during the prior year, despite pricing pressure from both our clients and competition in the Banking & Insurance and Global Markets sectors. We anticipate continued pricing pressure for the first half of calendar year 2004, however we expect to see improvement in both sectors, including steady revenue growth, as we position ourselves to benefit from our highly skilled and technically advanced workforce.

 

The Consumer, Industrial and Technology business unit generated revenue during the six months ended December 31, 2003 of $215.6 million, representing a decline of $55.3 million, or 20.4%, over the six months ended December 31, 2002. The decline was primarily the result of challenging economic conditions, which have led to a decrease in technology spending. Revenue was significantly impacted by the cancellation of two of our larger accounts. When compared to the same period in the prior year, engagement hours decreased 17.5% and billing rates decreased 3.5% during the six months ended December 31, 2003. Our pipeline remains stable and we expect revenue, bill rates and utilization to remain flat for the first half of calendar year 2004.

 

The EMEA business unit generated revenue of $289.3 million during the six months ended December 31, 2003, representing growth of $18.0 million, or 6.7%, over the six months ended December 31, 2002. The growth in our reported EMEA revenue resulted from a strengthening of foreign currencies (primarily the Euro) against the U.S. dollar during the six months ended December 31, 2003. In constant currency terms, revenue for our EMEA business unit for the six months ended December 31, 2003 declined by approximately 8% when compared to the six months ended December 31, 2002. This decline is the result of a decrease in engagement hours caused by the adverse changes in the business climate within certain of our EMEA operations. In response to this trend, we completed a reduction in workforce during the six months ended December 31, 2003, resulting in an increase in our utilization of approximately 5.6% for the six months ended December 31, 2003 when compared to the six months ended December 31, 2002.

 

The Asia Pacific business unit generated revenue of $163.3 million during the six months ended December 31, 2003 representing growth of $35.8 million, or 28.1%, over the six months ended December 31, 2002. This revenue growth was primarily driven by an 11.1% increase in utilization and an 11.3% increase in engagement hours as well as the strengthening of foreign currencies against the U.S. dollar. The increases in utilization and engagement hours were a result of strong bookings in Japan and the continued integration of acquisitions made during the six months ended December 31, 2002 throughout the region. We experienced improvement in our performance within Greater China, and continue to focus on the emerging economies of Southeast Asia such as Thailand, Malaysia and Singapore. Revenue for Korea, Australia and New Zealand for the six months ended December 31, 2003 remained consistent with revenue for the six months ended December 31, 2002 due to difficult market conditions within these countries, which negatively impacted IT spending.

 

Our Latin America business unit generated revenue of $47.1 million during the six months ended December 31, 2003, representing growth of $15.7 million, or 50.1%, over the six months ended December 31, 2002. The increase in revenue is primarily due to the positive impact of the acquisitions made during the first quarter of fiscal year 2003, as well as increased volume within Mexico and Brazil. This increase is reflected in a 50.7% growth in engagement hours, while our utilization improved 1.3% and our billing rate per hour in the region remained steady despite increased pricing pressure within this market.

 

Gross Profit. Gross profit as a percentage of revenue declined to 16.3% for the six months ended December 31, 2003, compared to 23.9% for the six months ended December 31, 2002. This decline is mainly attributable to an increase in other direct contract expenses and the impact of the $61.7 million lease and facilities charge related to office space reductions and the $13.6 million reduction in workforce charge recorded during the six months ended December 31, 2003. In dollar terms, gross profit decreased by $115.3 million, or 31.3%, from

 

20


Table of Contents

$368.3 million for the six months ended December 31, 2002, to $253.0 million for the six months ended December 31, 2003. The decrease in gross profit was due to the increase in revenue of $13.3 million described above, offset by the following:

 

  A net increase in professional compensation of $0.8 million, or less than 1.0%, from $689.0 million for the six months ended December 31, 2002, to $689.8 million for the six months ended December 31, 2003. Professional compensation expense for the six months ended December 31, 2003 includes a $13.6 million charge related to a reduction in workforce recorded during the period. The impact of this charge was significantly offset by savings achieved through our workforce reduction actions in response to the challenging economy.

 

  A net increase in other direct contract expenses of $78.8 million, or 23.1%, from $341.7 million, or 22.2% of revenue, for the six months ended December 31, 2002, to $420.4 million, or 27.0% of revenue, for the six months ended December 31, 2003. The $78.8 million increase in other direct contract expenses is mainly attributable to our increased use of subcontractors and higher levels of materials procurement, particularly in both the Public Services and EMEA business units. The increase in other direct contract expenses, including the cost of subcontractors, has negatively impacted our gross profit, as the cost of subcontractors is generally more expensive than the cost of our own workforce. We are focused on limiting the use of subcontractors whenever possible, working to increase our margins by complementing our solutions offerings with greater offshore capabilities, and increasing our hiring in order to balance our skill base with the market demand for our services.

 

  A net decrease in other costs of service of $9.5 million, or 6.8%, from $139.0 million for the six months ended December 31, 2002, to $129.5 million for the six months ended December 31, 2003. The decline in other costs of service is primarily attributable to savings achieved as a result of our office space reduction efforts.

 

  During the six months ended December 31, 2003, we recorded, within the Corporate/Other operating segment, a charge of $61.7 million for lease, facilities and other exit costs related to our previously announced reduction in office space primarily within the North America, EMEA and Asia Pacific regions. We reduced our overall office space in an effort to eliminate excess capacity and to align our office space usage with our current workforce and the needs of the business. The $61.7 million lease and facilities charge included $46.3 million related to the fair value of future lease obligations (net of estimated sublease income), $7.4 million representing the unamortized cost of fixed assets and $8.0 million in other costs associated with exiting facilities. As of December 31, 2003, we have a remaining lease and facilities accrual of $22.0 million and $33.5 million, identified as current and noncurrent portions, respectively. The remaining lease and facilities accrual will be paid over the remaining lease terms.

 

Gross profit for our Public Services business unit declined to 31.0% of revenue in the six months ended December 31, 2003, from 34.0% of revenue in the six months ended December 31, 2002. This decline is principally due to a $49.5 million increase in other direct contract expenses as a result of our increased use of subcontractors and materials procurement relating to specific engagements, coupled with a $1.8 million increase in compensation expense, which includes a $1.0 million reduction in workforce charge. Although we require subcontractors to handle specific requirements on some engagements, the majority of our use of subcontractors is not a skill-set issue, as many times clients mandate the use of certain contractors.

 

Gross profit for the Communications & Content business unit decreased to 25.4% of revenue in the six months ended December 31, 2003 from 37.9% of revenue in the six months ended December 31, 2002. The decline in gross profit was principally due to the decrease in revenue of $46.6 million resulting from the completion of several large contracts involving testing related to compliance with the 1996 Telecommunications Act. In addition, gross profit for the six months ended December 31, 2003 was impacted by a $1.8 million charge related to our reduction in workforce.

 

21


Table of Contents

Gross profit for the Financial Services business unit decreased to 29.0% of revenue in the six months ended December 31, 2003 from 32.1% of revenue in the six months ended December 31, 2002. The decline in gross profit was principally due to a $3.3 million increase in other direct contract expenses as a result of the increased use of subcontractors, as well as a $0.9 million increase in professional compensation expense, which includes a $0.4 million charge related to our reduction in workforce.

 

Gross profit for the Consumer, Industrial and Technology business unit declined to 23.1% of revenue in the six months ended December 31, 2003 from 31.2% of revenue in the six months ended December 31, 2002. The decline in gross profit was principally due to the decrease in revenue resulting from the challenging economic conditions and cautious IT spending as mentioned above. In addition, gross profit for the six months ended December 31, 2003 was impacted by a $2.8 million charge related to our reduction in workforce.

 

Gross profit as a percentage of revenue for the EMEA business unit declined to 12.1% of revenue during the six months ended December 31, 2003, compared to 24.4% of revenue during the six months ended December 31, 2002. This decline is primarily a result of an increase in other direct contract expenses due to increased use of subcontractors during the six months ended December 31, 2003. The increase in our use of subcontractors is a result of our need to contract for certain types of skills in order to meet client requirements. This need to subcontract will decline as we continue to balance our skill base against the market demand for our services. In addition, gross profit for the six months ended December 31, 2003 was impacted by a $4.4 million charge related to our reduction in workforce.

 

Gross profit as a percentage of revenue for the Asia Pacific business unit improved to 22.9%, during the six months ended December 31, 2003, compared to 14.3% for the six months ended December 31, 2002. This improvement is the result of several factors including the improvement in utilization of our personnel resulting in a reduction in professional compensation expense as a percentage of revenue and a reduction in other costs of services due to tight spending controls imposed during the six months ended December 31, 2003. This improvement was partially offset by a $0.5 million workforce reduction charge recorded in the six months ended December 31, 2003.

 

Gross profit as a percentage of revenue for Latin America declined to 19.6% of revenue during the six months ended December 31, 2003 compared to 32.8% of revenue during the six months ended December 31, 2002. This decline is primarily the result of our increased use of subcontractors at key clients to satisfy the demands resulting from our revenue growth discussed above. In addition, a $0.3 million workforce reduction charge recorded in the six months ended December 31, 2003 negatively impacted gross profit.

 

Amortization of Purchased Intangible Assets. Amortization of purchased intangible assets decreased $8.7 million to $10.7 million for the six months ended December 31, 2003, from $19.3 million for the six months ended December 31, 2002. This decrease in amortization expense primarily relates to the fact that the majority of the value relating to order backlog, customer contracts and related customer relationships that were acquired during the six months ended December 31, 2002, was fully amortized by August 2003.

 

Goodwill Impairment Charge. In December 2003, a goodwill impairment loss of $127.3 million ($0.66 per share) was recognized in the EMEA reporting unit as the carrying amount of the reporting unit’s goodwill exceeded the implied fair value of that goodwill.

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased $9.8 million, or 3.5%, from $283.6 million for the six months ended December 31, 2002, to $273.8 million for the six months ended December 31, 2003. This decrease is predominantly due to $21.8 million in costs associated with our rebranding initiative incurred during the six months ended December 31, 2002. This decrease is also attributable to savings in infrastructure costs as we continue to wind down services provided under our transition services agreement with KPMG LLP. This savings is offset by an increase in infrastructure costs associated with

 

22


Table of Contents

the international acquisitions completed during the first quarter of fiscal year 2003. Selling, general and administrative expenses as a percentage of gross revenue declined slightly to 17.6% compared to 18.4% for the six months ended December 31, 2003 and 2002, respectively.

 

Income Tax Expense. For the six months ended December 31, 2003, we recorded a loss before taxes of $162.9 million and provided for income taxes of $2.8 million, resulting in a negative effective tax rate of 1.7%. For the six months ended December 31, 2002, we earned income before taxes of $60.8 million and provided for income taxes of $33.9 million, resulting in an effective tax rate of 55.8%. Our effective tax rate continues to be negatively impacted by unusable losses in foreign operations. Additionally, due to a history of losses and restrictions under tax laws, we are generally unable to recognize tax benefit in connection with our current period $127.3 million goodwill impairment charge.

 

Net Income (Loss). For the six months ended December 31, 2003, we incurred a net loss of $165.8 million, or a loss of $0.86 per share. For the six months ended December 31, 2002, we realized net income of $26.9 million, or $0.15 per share. Included in our results for the six months ended December 31, 2003 is the $127.3 million goodwill impairment charge, $61.7 million of lease and facilities charges and $13.6 million related to workforce reductions.

 

Year Ended June 30, 2003 Compared to Year Ended June 30, 2002

 

Revenue. Revenue increased $771.7 million, or 32.6%, from $2,367.6 million in the year ended June 30, 2002 (fiscal year 2002), compared to $3,139.3 million in the year ended June 30, 2003 (fiscal year 2003). The overall increase in revenue was predominantly due to the impact of the acquisitions completed during the first half of fiscal year 2003. Our three international operating segments (i.e., EMEA and the Asia Pacific and Latin America regions) accounted for $746.3 million, or 96.7%, of the global revenue increase, principally resulting from the aforementioned acquisitions. Total North America revenue increased by $30.6 million, or 1.4%, to $2.2 billion as increases in three of our North America business units (Public Services, Financial Services and Consumer, Industrial and Technology) were almost completely offset by declines in the Communications & Content business unit. North America revenue was positively impacted by personnel acquired from Andersen Business Consulting during the first quarter of fiscal year 2003 as engagement hours increased by 5.8%; however, a decline in the average gross billing rate per hour for the fiscal year ended June 30, 2003 compared to the fiscal year ended June 30, 2002 partially offset the higher level of engagement hours. Average gross billing rates in certain markets have declined due to continuous pricing pressures resulting from the challenging economic environment.

 

Public Services, our largest business unit, generated revenue in the year ended June 30, 2003 of $1,094.8 million, representing an increase of $128.3 million, or 13.3%, over the year ended June 30, 2002. This increase was predominantly due to growth in the Federal and State and Local business segments, driven by an 11.6% increase in engagement hours while gross billing rates were consistent year over year.

 

The Communications & Content business unit generated revenue of $350.7 million in the year ended June 30, 2003, representing a decline of $122.6 million, or 25.9%, over the year ended June 30, 2002. This decline was primarily the result of reduced spending in the telecommunications industry and the Company’s completion of several large contracts involving testing related to compliance with the 1996 Telecommunications Act, resulting in a 23.5% decrease in engagement hours and a slight decline in the gross billing rate year over year.

 

Our Financial Services business unit generated revenue in the year ended June 30, 2003 of $236.8 million, representing growth of $6.8 million, or 2.9%, over the year ended June 30, 2002. The increase in revenue was principally due to an increase in engagement hours while gross billing rates remained consistent year over year.

 

The Consumer, Industrial and Technology business unit, representing the combination of our former High Technology and Consumer and Industrial Markets business units, generated revenue in the year ended June 30, 2003 of $523.9 million, representing growth of $18.0 million, or 3.6%, over the year ended

 

23


Table of Contents

June 30, 2002. This business unit received the greatest revenue and resource impact from personnel hired from Andersen Business Consulting in the United States. The growth in revenue was principally due to a 25.7% increase in engagement hours, partially offset by a 17.6% decline in the gross billing rate year over year.

 

Our acquisitions completed in the first half of fiscal year 2003 significantly expanded our international presence and diversified our revenue base. For the fiscal year ended June 30, 2003, North America generated 70.3% of consolidated gross revenue, while EMEA, Asia Pacific and Latin America contributed 18.1%, 9.3% and 2.3%, respectively. By comparison, for the fiscal year ended June 30, 2002, North America contributed 91.9% of consolidated gross revenue, with EMEA, Asia Pacific and Latin America providing 0.7%, 5.4% and 1.9%, respectively. For the fiscal year ended June 30, 2003, the EMEA, Asia Pacific and Latin America operating segments generated revenue of $567.6 million, $293.2 million and $73.7 million, respectively, compared to revenue for the fiscal year ended June 30, 2002 of $16.1 million, $128.1 million and $44.1 million, respectively. The increase in revenue was predominantly due to the impact of the aforementioned acquisitions, coupled with organic growth.

 

Gross Profit. Gross profit as a percentage of revenue declined to 22.8% for the fiscal year ended June 30, 2003, compared to 25.4% for the fiscal year ended June 30, 2002. This decline is mainly attributable to an increase in professional compensation expense in relation to revenue resulting from the addition of approximately 7,000 billable employees in connection with the acquisitions completed in the first half of fiscal year 2003, offset in part by our continued focus on a variety of revenue growth and cost control initiatives, including continued evaluation of required office space and the size of our workforce in relation to overall client demand for services. In dollar terms, gross profit increased by $114.4 million, or 19.0%, from $600.9 million for the year ended June 30, 2002, to $715.3 million for the year ended June 30, 2003. The increase in gross profit was due to an increase in revenue of $771.7 million described above, offset by:

 

  A net increase in professional compensation of $481.9 million, or 51.2%, from $940.8 million for the year ended June 30, 2002, to $1,422.7 million for the year ended June 30, 2003. This increase is primarily related to the additional compensation expense in relation to revenue resulting from the addition of approximately 7,000 billable employees as a result of acquisitions completed in the first half of fiscal year 2003, including $13.5 million relating to common stock awards made to certain former partners of the Andersen Business Consulting practices. These increases are partially offset by savings achieved though our workforce reduction actions that have occurred over the past twelve months in response to the challenging economy.

 

  A net increase in other direct contract expenses of $128.6 million, or 21.7%, from $592.6 million, or 25.0% of revenue, for the year ended June 30, 2002, to $721.2 million, or 23.0% of revenue, for the year ended June 30, 2003. The $128.6 million increase in other direct contract expenses is attributable to higher revenue levels, while the improvement in other direct contract expenses as a percentage of revenue to 23.0% is due to our continued efforts to limit the use of subcontractors and travel-related expenses.

 

  A net increase in other costs of service of $53.1 million, or 25.4%, from $209.4 million for the year ended June 30, 2002, to $262.5 million for the year ended June 30, 2003. This increase is primarily due to an increase in other costs of service resulting from the acquisitions completed in the first half of fiscal year 2003, partially offset by lower levels of bad debt expense and tighter controls on discretionary spending.

 

  An impairment charge of $23.9 million ($20.8 million net of tax) recorded in the year ended June 30, 2002, primarily related to the write down of equity investments by $16.0 million and software licenses held for sale by $7.6 million.

 

Gross profit for the Public Services business unit declined to 32.0% of revenue in fiscal year 2003 from 35.4% of revenue in fiscal year 2002, principally due to higher solution development costs, coupled with an increase in compensation expense. Gross profit for the Communications & Content business unit increased to

 

24


Table of Contents

32.2% of revenue in fiscal year 2003 from 29.9% of revenue in fiscal year 2002. The improvement in gross profit was principally due to reduced reliance on subcontractors in fiscal year 2003, as well as an impairment charge related to software licenses in fiscal year 2002. Gross profit for the Financial Services business unit increased to 29.3% of revenue in fiscal year 2003 from 20.3% of revenue in fiscal year 2002, principally due to revenue growth combined with overall declines in cost of service expense margins in fiscal year 2003. Gross profit for the Consumer, Industrial and Technology business unit declined to 27.1% of revenue in fiscal year 2003 from 30.1% of revenue in fiscal year 2002. The decline in gross profit was principally due to a decline in the gross billing rate, increased compensation as a result of the change in mix of resources, as well as the hiring of Andersen Business Consulting personnel.

 

Gross profit as a percentage of revenue for our international operating segments improved during the fiscal year ended June 30, 2003 compared to the fiscal year ended June 30, 2002. Gross profit for EMEA, Asia Pacific and Latin America improved to 19.2%, 16.7% and 31.8% of revenue in fiscal year 2003, respectively, compared to 11.9%, 8.7% and 7.3% of revenue in fiscal year 2002, respectively. The improvement in gross profit was principally due to higher revenue combined with reduced reliance on subcontractors and an overall decline in costs of service expense margins in fiscal year 2003.

 

Amortization of Purchased Intangible Assets. Amortization of purchased intangible assets increased $41.7 million to $44.7 million for the year ended June 30, 2003, from $3.0 million for the year ended June 30, 2002. This increase in amortization expense primarily relates to $45.7 million of value of order backlog, customer contracts and related customer relationships acquired as part of our acquisitions, which is being amortized over 12 to 15 months.

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses increased $91.3 million, or 19.6%, from $464.8 million for the year ended June 30, 2002, to $556.1 million for the year ended June 30, 2003. This increase is principally due to the impact of the acquisitions completed in the first half of fiscal year 2003 and $28.2 million in costs associated with our rebranding initiative, offset partially by reduced discretionary spending and current cost control initiatives. Selling, general and administrative expenses as a percentage of gross revenue improved to 17.7% compared to 19.6% for the years ended June 30, 2003 and 2002, respectively.

 

Interest Income (Expense), Net. Interest income (expense), net, decreased $13.6 million to $12.7 million of net interest expense from $0.9 million of net interest income for the years ended June 30, 2003 and 2002, respectively. This increase in net interest expense is due to an increase in borrowings outstanding of $275.3 million from $1.8 million at June 30, 2002 to $277.2 million at June 30, 2003. The increase in borrowings is primarily due to our borrowing of $220.0 million in August 2002 under a short-term revolving credit facility, which was retired in November 2002 upon our completion of a private placement of $220.0 million in senior notes. Additionally, we have increased borrowings under our other credit facilities. We have used the borrowings primarily to finance a portion of the cost of our acquisitions completed during the first half of fiscal year 2003.

 

Income Tax Expense. For the year ended June 30, 2003, we earned income before taxes of $99.1 million and provided for income taxes of $57.8 million, resulting in an effective tax rate of 58.3%. For the year ended June 30, 2002, we earned income before taxes of $134.6 million and provided for income taxes of $81.5 million, resulting in an effective tax rate of 60.6%. Our effective tax rate continues to be negatively impacted because tax laws restrict the use of our foreign subsidiary losses to reduce our tax burden.

 

Cumulative Effect of Change in Accounting Principle. We early adopted SFAS No. 142 during the first quarter of the fiscal year ended June 30, 2002 (as of July 1, 2001). This standard eliminated goodwill amortization upon adoption and required an assessment for goodwill impairment upon adoption and at least annually thereafter. As a result of adoption of this standard, we no longer amortize goodwill, and during the fiscal year ended June 30, 2002, we incurred a non-cash transitional impairment charge of $80.0 million (net of

 

25


Table of Contents

tax). This transitional impairment charge is a result of the change in accounting principle, which requires measuring impairments on a discounted rather than undiscounted cash flow basis.

 

Net Income (Loss). For the fiscal year ended June 30, 2003, we realized net income of $41.3 million, or $0.22 per share. For the fiscal year ended June 30, 2002, we incurred a net loss of $26.9 million, or $0.17 loss per share. Included in the prior year’s results is the cumulative effect of a change in accounting principle of $80.0 million (net of tax) and an impairment charge of $20.8 million (net of tax) related to the write down of equity investments and software licenses held for sale.

 

Year Ended June 30, 2002 Compared to Year Ended June 30, 2001

 

Revenue. Revenue decreased $488.2 million, or 17.1%, from $2,855.8 million in the year ended June 30, 2001 (fiscal year 2001), to $2,367.6 million in the year ended June 30, 2002 (fiscal year 2002). This overall decrease was primarily attributable to a slower economy, which significantly impacted the Financial Services and Consumer, Industrial and Technology businesses with year-over-year declines of 50.4% and 38.8%, respectively. Public Services remained strong with growth of 10.9% and international revenue also grew by 32.8%, which was largely due to the acquisitions of the Australia and Southeast Asia consulting practices.

 

Gross Profit. Gross profit as a percentage of revenue improved slightly to 25.4% from 25.0% for the years ended June 30, 2002 and 2001, respectively. Despite the decrease in revenue discussed above, we were able to maintain our gross profit percentage as a result of our continued focus on expense control.

 

In dollar terms, gross profit decreased by $113.9 million, or 15.9%, from $714.7 million for the year ended June 30, 2001, to $600.9 million for the year ended June 30, 2002. The decrease in gross profit was due to a decline in revenue of $488.2 million described above, offset by:

 

  A net decrease in professional compensation of $143.9 million, or 13.3%, to $940.8 million compared to $1,084.8 million in the prior year. This decrease was predominantly due to our reduction in workforce actions, taken in the second and fourth quarters of fiscal year 2002 and the fourth quarter of fiscal year 2001. Overall, our average billable headcount has declined from approximately 8,900 in fiscal year 2001 to 8,100 in fiscal year 2002. Additionally, incentive compensation accruals were also lower as a result of the decrease in our earnings.

 

  A net decrease in other direct contract expenses of $159.3 million, or 21.2%, to $592.6 million, representing 25.0% of revenue, compared to $752.0 million, or 26.3% of revenue in the prior year. The decline as a percentage of revenue was a direct result of our efforts to limit the use of subcontractors whenever possible, utilizing existing resources, and reduced travel-related expenses.

 

  A net decrease in other costs of service of $87.2 million, or 29.4%, to $209.4 million from $296.5 million, was primarily due to a decrease in bad debt expense of $29.2 million, reduced training costs of $23.0 million, tighter controls on discretionary expenses, and reduced headcount.

 

  During fiscal year 2002, we recorded an impairment charge of $23.9 million ($20.8 million net of tax) primarily to write down equity investments by $16.0 million and software licenses held for sale by $7.6 million. These charges eliminated our exposure to loss related to equity investments and software licenses held for sale. Our impairment charge of $7.8 million ($4.6 million net of tax) in fiscal year 2001 related to software licenses held for sale.

 

Amortization of Goodwill. Amortization of goodwill decreased by $18.2 million as a result of our election to early-adopt SFAS No. 142, “Goodwill and Other Intangible Assets,” which eliminated goodwill amortization.

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses were $464.8 million for the year ended June 30, 2002. This reflects a decrease of $10.3 million, or 2.2%, from $475.1 million in fiscal year 2001, which was primarily due to lower levels of practice development expenses.

 

26


Table of Contents

Interest Income. Interest income increased $0.8 million, or 31.8%, from $2.4 million during fiscal year 2001 to $3.1 million for fiscal year 2002. This increase was primarily due to our increase in short term investments due to an increase of $129.3 million in our cash and cash equivalents position to $222.6 million at June 30, 2002 from $93.3 million at June 30, 2001.

 

Interest Expense. Interest expense decreased $14.9 million, or 86.9%, from $17.2 million to $2.2 million for the year ended June 30, 2001 and 2002, respectively. This decrease was due to a repayment of all outstanding borrowings under our credit facility during fiscal year 2001, resulting from the use of proceeds from our initial public offering, and improvements made in our management of client billings and collections. This improvement is evidenced by the further reduction in our days sales outstanding from 68 days at June 30, 2001 to 55 days at June 30, 2002.

 

Equity in Losses of Affiliate and Loss on Redemption of Equity Interest in Affiliate. For the year ended June 30, 2001, loss on redemption of equity interest in affiliate and equity losses of affiliate of $76.0 million related primarily to the redemption of our equity investment in QCS in December 2000.

 

Income Tax Expense. For the year ended June 30, 2002, we earned income before taxes and cumulative effect of change in accounting principle of $134.6 million and provided income taxes of $81.5 million, resulting in an effective tax rate of 60.6%. This rate was impacted by the non-deductibility of losses incurred by certain international operations as well as non-deductible impairment losses relating to equity investments. For the year ended June 30, 2001, we earned income before taxes of $136.8 million and provided income taxes of $101.9 million, resulting in an effective tax rate of 74.5%. This rate was significantly impacted by the non-deductibility of the loss on redemption of equity interest in affiliate (QCS) coupled with non-deductible losses in certain international operations.

 

Cumulative Effect of Change in Accounting Principle. We elected to early-adopt SFAS No. 142 as of July 1, 2001. This standard eliminates goodwill amortization upon adoption and requires an assessment for goodwill impairment upon adoption and at least annually thereafter. As a result of adoption of this standard, we did not amortize goodwill during the year ended June 30, 2002, and incurred a non-cash transitional impairment charge of $80.0 million, net of tax. This transitional impairment charge was a result of the change in accounting principles to measuring impairments on a discounted versus an undiscounted cash flow basis.

 

Preferred Stock Dividends. Series A Preferred Stock dividends totaling $31.7 million were recorded in the year ended June 30, 2001. After December 31, 2000, we no longer were required to pay dividends on our Series A Preferred Stock because it was redeemed and converted in connection with our initial public offering.

 

Preferred Stock Conversion Discount. Our Series A Preferred Stock contained a beneficial conversion feature whereby the preferred stock could convert into common stock at a rate of between 75% and 80% of the initial public offering price. Based upon an initial public offering price of $18 per share, the net amount of this one-time non-cash beneficial conversion feature was $131.3 million.

 

Net Income (Loss) Applicable to Common Stockholders. For the year ended June 30, 2002, we incurred a net loss applicable to common stockholders of $26.9 million, or $0.17 per share. For the year ended June 30, 2001, we incurred a net loss applicable to common stockholders of $128.0 million, or $1.19 per share. Both periods’ results were impacted by significant one-time or nonrecurring charges, as described above.

 

Quarterly Summarized Financial Information

 

Restatement

 

The Company experienced significant activity for the fiscal year ended June 30, 2003. During this period, we considerably expanded our global presence adding consulting resources in eight additional countries through

 

27


Table of Contents

15 purchase business acquisitions for an aggregate purchase price of approximately $800 million. In August 2003, we reported that we would restate our financial results for the first three quarters of fiscal year 2003. The restatements required us to amend our previously filed Form 10-Q’s for each of the quarterly periods within fiscal year 2003. The restatements occurred in the following general areas:

 

  Purchase accounting resulting from the application of SFAS No. 141, “Business Combinations,” and EITF 95-3, “Recognition of Liabilities in Connection with a Purchase Business Combination”;

 

  Revenue recognition related to contract accounting and the application of SOP 81-1, “Accounting for Performance of Construction Type and Certain Production-Type Contracts”;

 

  The accounting treatment of accrued liabilities and the use of estimated months to account for operations subsequent to certain international business acquisitions; and

 

  The accounting treatment of stock awards and related shareholder notes.

 

In total these adjustments resulted in a decrease in previously reported net income and earnings per share in the first, second and third quarters of fiscal year 2003 of $2.9 million, or $0.02 per share, $1.8 million or $0.01 per share and $8.2 million, or $0.04 per share, respectively.

 

Summarized below is a more detailed discussion of the restatements.

 

Purchase Accounting

 

During the quarter ended September 30, 2002, we completed various acquisitions that were accounted for as purchase business acquisitions, resulting in approximately $26.4 million in identified intangible assets. These acquisitions included the purchase of KPMG Consulting AG, a substantial consulting practice in Germany, and the purchase of all or parts of a number of Andersen Business Consulting practices worldwide. We completed preliminary purchase price allocations to allocate the purchase prices to acquired assets and assumed liabilities. The excess of the cost of the acquired entities over the amounts assigned to the acquired assets and liabilities assumed was recognized as goodwill. As part of the initial purchase price allocation, value was ascribed to only contractual backlog (order backlog) and a trade name. This initial allocation was determined to be too low, and accordingly, an additional $20.8 million of value for identified intangible assets related to customer contracts and related customer relationships was allocated to these identified intangible assets with a corresponding reduction to goodwill. The additional intangible assets are being amortized over useful lives ranging from 12 to 15 months. As a result, approximately $3.0 million, $4.2 million and $4.6 million of incremental amortization of purchased intangible assets was recorded in the quarters ended September 30, 2002, December 31, 2002 and March 31, 2003, respectively.

 

During the fiscal year ended June 30, 2003 we completed a series of restructurings related to many of our purchase business acquisitions increasing goodwill by approximately $2.2 million and $3.1 million for the quarters ended December 31, 2002 and March 31, 2003, respectively, for certain charges relating to exiting from leased facilities. It was determined that these charges did not satisfy the criteria to be included in purchase accounting in accordance with EITF 95-3, and were therefore deducted from goodwill and charged to costs of service.

 

Contract Accounting

 

In one of our international consulting practices, we identified an accumulation of work in process on our balance sheet. We identified approximately $0.9 million, $2.5 million and $2.4 million in revenue related to pre-contract activities that was inappropriately recognized in the quarters ended September 30, 2002, December 31, 2002 and March 31, 2003, respectively. As such, these amounts were reversed from revenue, as no contractual arrangement existed at the time the amounts were recorded and recovery of these costs was not considered probable.

 

28


Table of Contents

In addition, we identified certain circumstances where the percentage-of-completion method as prescribed under SOP 81-1 was not appropriately applied. On a combined net basis, approximately $1.9 million and $2.4 million was reversed from revenue in the quarters ended September 30, 2002 and March 31, 2003, respectively, and approximately $8.5 million of additional revenue was recognized in the quarter ended December 31, 2002. In addition, costs of service was reduced by approximately $0.9 million and $1.1 million in the quarters ended September 30, 2002 and March 31, 2003, respectively, and increased by $0.2 million in the quarter ended December 31, 2002.

 

Accruals

 

During fiscal year 2003, we recorded accrued liabilities for our fringe benefits based on cost factors associated with projected labor hours. During fiscal year 2003, we did not adjust the accrual as assumptions were revised. As a result, adjustments to correct the calculated fringe benefit accruals of approximately $0.8 million and $4.9 million reduced costs of service for the quarters ended September 30, 2002 and December 31, 2002, respectively, and increased costs of service by approximately $0.4 million for the quarter ended March 31, 2003.

 

In connection with an increase in our deductible for our professional indemnity insurance, we established an accrued liability of $2.2 million during the quarter ended March 31, 2003. This accrued liability was determined to be unwarranted and was therefore reversed, resulting in a reduction to selling, general and administrative expenses.

 

During the first quarter of fiscal year 2003, we completed a number of business acquisitions. At the end of the first post-transaction fiscal reporting period (the quarter ended September 30, 2002), certain of the entities were not able to close their books on a timely basis for U.S. public reporting purposes. As a result, in an effort to conform to a fiscal year convention, we recorded an “estimated month” income statement and a net asset or liability account on the balance sheet for those entities. We restated the respective quarters on a conforming fiscal period end, and have eliminated the effect of the “estimated month.” We reduced revenue by $12.5 million and $4.5 million for the quarters ended September 30, 2002 and December 31, 2002, respectively, and increased revenue by $2.5 million for the quarter ended March 31, 2003; decreased costs of service by $10.5 million and $1.4 million for the quarters ended September 30, 2002 and December 31, 2002, respectively, and increased costs of service by $4.0 million for the quarter ended March 31, 2003; reduced selling, general and administrative expenses by $1.3 million and $0.6 million for the quarters ended September 30, 2002 and March 31, 2003, respectively, and increased selling, general and administrative expenses by $0.4 million for the quarter ended December 31, 2002.

 

Stock awards and shareholders’ notes

 

We initially accounted for certain stock awards in prior years as fixed plan grants, with related payments to the respective employees for tax liabilities accounted for as interest-bearing shareholder notes. The initial accounting was revised to treat the awards as a variable grant. The revision did not have a material impact on the statements of operations for any prior periods and therefore prior years financial statements were not restated. Instead, the aggregate effect of the revised accounting was reflected as adjustments to additional paid-in capital, retained earnings (accumulated deficit) and notes receivable from stockholders as of July 1, 2002. In addition, under the revised accounting, reserves recorded against the shareholder notes during the quarters ended September 30, 2002, December 31, 2002, and March 31, 2003 were not necessary and were reversed decreasing selling, general and administrative expenses by approximately $1.5 million, $2.3 million and $2.3 million for the quarters ended September 30, 2002, December 31, 2002, and March 31, 2003, respectively.

 

Other adjustments impacting net income

 

Other adjustments that were recorded were identified through both timely quarterly reviews as well as during the year-end closing process and ordinary course of the audit. These adjustments were not material either individually or in the aggregate to income before taxes.

 

29


Table of Contents

Reclassifications not impacting net income

 

Statement of operations reclassification adjustments were identified through both timely quarterly reviews as well as during the year-end closing process and ordinary course of the audit. The reclassifications were made to conform the amounts previously reported to the restated presentations. These reclassifications did not impact net income.

 

Statement of Operations

 

The following table presents unaudited quarterly financial information for each of the last ten quarters. In management’s opinion, the quarterly information contains all adjustments necessary to fairly present such information. As a professional services organization, we anticipate and respond to service demands from our clients. Accordingly, we have limited control over the timing and circumstances under which our services are provided. Therefore, we may experience variability in our operating results from quarter to quarter. The operating results for any quarter are not necessarily indicative of the results for any future period.

 

    Dec. 31,
2003


    Sept. 30,
2003


    June 30,
2003


    Mar. 31,
2003


    Dec. 31,
2002


    Sept. 30,
2002


    June 30,
2002


  Mar. 31,
2002


    Dec. 31,
2001


  Sept. 30,
2001


 
    (in thousands, except share and per share amounts)  

Revenue

  $ 811,473     $ 742,958     $ 780,135     $ 818,870     $ 807,573     $ 732,699     $ 583,213   $ 582,305     $ 593,218   $ 608,891  
   


 


 


 


 


 


 

 


 

 


Costs of service:

                                                                           

Costs of service

    643,209       596,512       598,131       638,610       609,307       560,366       421,363     418,782       457,789     444,927  

Lease and facilities charge

    2,483       59,203       9,715       5,612       —         2,265       —       —         —       —    

Impairment charge

    —         —         —         —         —         —         21,414     —         2,500     —    
   


 


 


 


 


 


 

 


 

 


Total costs of service

    645,692       655,715       607,846       644,222       609,307       562,631       442,777     418,782       460,289     444,927  
   


 


 


 


 


 


 

 


 

 


Gross profit

    165,781       87,243       172,289       174,648       198,266       170,068       140,436     163,523       132,929     163,964  

Amortization of purchased intangible assets

    2,545       8,106       12,972       12,396       11,321       8,013       1,004     1,005       1,005     —    

Goodwill impairment charge

    127,326       —         —         —         —         —         —       —         —       —    

Selling, general and administrative expenses

    144,347       129,428       130,990       141,526       149,810       133,771       118,646     112,990       113,985     119,185  
   


 


 


 


 


 


 

 


 

 


Operating income (loss)

    (108,437 )     (50,291 )     28,327       20,726       37,135       28,284       20,786     49,528       17,939     44,779  

Interest/Other income (expense), net

    (2,433 )     (1,775 )     (4,777 )     (6,014 )     (3,159 )     (1,456 )     2,006     (54 )     202     (600 )
   


 


 


 


 


 


 

 


 

 


Income (loss) before taxes

    (110,870 )     (52,066 )     23,550       14,712       33,976       26,828       22,792     49,474       18,141     44,179  

Income tax expense (benefit)

    15,713       (12,882 )     13,244       10,571       19,427       14,517       22,388     25,726       11,547     21,863  
   


 


 


 


 


 


 

 


 

 


Income (loss) before cumulative effect of change in accounting principle

    (126,583 )     (39,184 )     10,306       4,141       14,549       12,311       404     23,748       6,594     22,316  

Cumulative effect of change in accounting principle, net of tax

    —         —         —         —         —         —         —       —         —       (79,960 )
   


 


 


 


 


 


 

 


 

 


Net income (loss)

  $ (126,583 )   $ (39,184 )   $ 10,306     $ 4,141     $ 14,549     $ 12,311     $ 404   $ 23,748     $ 6,594   $ (57,644 )
   


 


 


 


 


 


 

 


 

 


Net income (loss) per share—basic and diluted

  $ (0.65 )   $ (0.20 )   $ 0.05     $ 0.02     $ 0.08     $ 0.07     $ —     $ 0.15     $ 0.04   $ (0.36 )
   


 


 


 


 


 


 

 


 

 


Stock Price

                                                                           

High

  $ 10.25     $ 11.25     $ 10.80     $ 8.60     $ 9.02     $ 15.01     $ 21.41   $ 21.49     $ 19.03   $ 15.50  

Low

  $ 7.90     $ 6.75     $ 5.80     $ 5.78     $ 5.03     $ 5.35     $ 12.50   $ 15.55     $ 10.00   $ 9.11  

 

30


Table of Contents

Obligations and Commitments

 

As of December 31, 2003, we had the following obligations and commitments to make future payments under contracts, contractual obligations and commercial commitments:

 

          Payment due by period

Contractual Obligations


   Total

   Less than
1 year


   1-3 years

   3-5 years

   After
5 years


     (in thousands)

Long-term debt(1)

   $ 298,730    $ 24,170    $ 120,763    $ 153,797    $ —  

Operating leases

     557,339      82,598      162,915      125,094      186,732

Outsourcing services agreement

     19,688      11,250      8,438      —        —  

Reduction in workforce

     2,338      2,338      —        —        —  
    

  

  

  

  

Total

   $ 878,095    $ 120,356    $ 292,116    $ 278,891    $ 186,732
    

  

  

  

  


(1) Long-term debt includes both principal and interest payment obligations.

 

Liquidity and Capital Resources

 

Our primary sources of liquidity are cash flows from operations, borrowings available under our various existing credit facilities and existing cash balances. At December 31, 2003, we had a cash balance of $122.7 million, which has increased $0.9 million from a cash balance of $121.8 million at June 30, 2003.

 

Net cash provided by operating activities during the six months ended December 31, 2003 was $43.6 million, an increase of $3.1 million over the six months ended December 31, 2002. This increase was due to a $17.4 million change in operating assets and liabilities, offset by a $14.3 million decrease in cash operating results (which consists of net income adjusted for changes in deferred income taxes, stock awards, depreciation and amortization, goodwill impairment and the lease and facilities charge). The change in operating assets and liabilities is primarily the result of an improvement in our collection of accounts receivable and the timing of our payments to vendors, offset by the timing of employee benefit payments during the current period. Our days sales outstanding improved to 67 days at December 31, 2003 compared to 73 days at December 31, 2002. Days sales outstanding represents the trailing twelve months revenue divided by 365 days, which is divided into the consolidated accounts receivables, unbilled revenue and deferred revenue balances to arrive at days sales outstanding at a point in time.

 

Net cash used in investing activities during the six months ended December 31, 2003 was $34.9 million, due to purchases of property and equipment, including internal use software, incurred as part of our continued infrastructure build-out. Net cash used in investing activities decreased $448.3 million when compared to the six months ended December 31, 2002, resulting from $420.6 million of cash paid for acquisitions and a higher level of spending on property and equipment during the six months ended December 31, 2002. We expect to continue to make additional investments in property and equipment as we further implement a new North American financial accounting system during the second quarter of calendar year 2004 and continue the build-out of our infrastructure and support capabilities in connection with the winding down of the transition services agreement with KPMG LLP.

 

Net cash used in financing activities for the six months ended December 31, 2003 was $12.6 million, due to net repayment of borrowings of $31.3 million, offset by $10.5 million received in exchange for the issuance of common stock primarily relating to our employee stock purchase plan and a $8.2 million net increase in book overdrafts. For the six months ended December 31, 2002, we had net cash provided by financing activities of $293.6 million principally due to proceeds from borrowings used to fund a portion of our acquisitions during the six months ended December 31, 2002.

 

We have borrowing arrangements available including a revolving credit facility with an outstanding balance of $4.0 million at December 31, 2003 (not to exceed $250.0 million), and an accounts receivable financing facility with no outstanding balance at December 31, 2003 (not to exceed $150.0 million). The $250.0 million revolving credit facility expires on May 29, 2005, and borrowings under this facility are not due until that time; however, management may choose to repay these borrowings at any time prior to that date. The accounts

 

31


Table of Contents

receivable purchase agreement permits sales of accounts receivable through May 21, 2004, subject to annual renewal. The accounts receivable purchase agreement is accounted for as a financing transaction; accordingly, it is not an off-balance sheet financing arrangement.

 

The $250.0 million revolving credit facility includes affirmative, negative and financial covenants, including, among others, covenants restricting our ability to incur liens and indebtedness, purchase our securities, and pay dividends and requiring us to maintain a minimum level of net worth ($882.2 million as of December 31, 2003), maintain fixed charge coverage of at least 1.25 to 1.00 (as defined) and maintain a leverage ratio not to exceed 2.50 to 1.00 (as defined). In November 2003 and March 2004, we entered into two amendments to this credit facility, which, among other things, modified certain definitions that are used in the covenants and incorporated three additional covenants from the Senior Notes—minimum consolidated net worth, minimum fixed charge coverage and maximum leverage ratio. These additional covenants are discussed in the following paragraph that relates to the Senior Notes. We are in compliance with the financial ratios, covenants and other restrictions imposed by this credit facility. The credit facility contains customary events of default and a default (i) upon the acquisition by a person or group of beneficial ownership of 30% or more of our common stock, or (ii) if within a period of six calendar months, a majority of the officers of our executive committee cease to serve on our executive committee, and their terminations or departures materially affect our business. The receivables purchase agreement contains covenants that are consistent with our $250.0 million revolving credit facility. The revolving credit facility and the receivables purchase agreement cross defaults in certain circumstances, to each other and to other debt, including the Senior Notes.

 

In November 2002, we completed a private placement of $220.0 million in aggregate principal Senior Notes. The offering consisted of $29.0 million of 5.95% Series A Senior Notes due November 2005, $46.0 million of 6.43% Series B Senior Notes due November 2006 and $145.0 million of 6.71% Series C Senior Notes due November 2007. The Senior Notes include affirmative, negative and financial covenants, including among others, covenants restricting our ability to incur liens and indebtedness and purchase our securities, and requiring us to maintain a minimum level of net worth ($847.2 million as of December 31, 2003), maintain fixed charge coverage of at least 2.00 to 1.00 (as defined), and maintain a leverage ratio not to exceed 2.50 to 1.00 (as defined). We are in compliance with the financial ratios, covenants and other restrictions imposed by the Senior Notes. The Senior Notes contain customary events of default, including cross defaults, which apply in certain circumstances, to our revolving credit facility and receivables purchase facility and our other debt. The proceeds from the sale of these Senior Notes were used to completely repay our short-term revolving credit facility of $220.0 million, which was scheduled to mature on December 15, 2002.

 

On January 31, 2003, our Japanese subsidiary entered into a new 2 billion yen-denominated term loan. Scheduled principal payments are every six months through July 31, 2005 in the amount of 334.0 million yen and include a final payment of 330.0 million yen on January 31, 2006. The term loan is unsecured, does not contain any financial covenants, and is not guaranteed by us. At December 31, 2003, the balance outstanding under the 2 billion yen-denominated term loan is approximately 1.67 billion yen (approximately $15.5 million). In connection with this line of credit, we agreed to seek consent of the lender prior to reducing our interest in the subsidiary-borrower below 100%.

 

On June 30, 2003, our Japanese subsidiary entered into a new 1 billion yen-denominated term loan. Scheduled principal payments are every six months through December 31, 2005 in the amount of 167.0 million yen and include a final payment of 165.0 million yen on June 30, 2006. The term loan is unsecured, does not contain financial covenants, and is not guaranteed by us. At December 31, 2003, the balance outstanding under the 1 billion yen-denominated term loan is 833.0 million yen (approximately $7.8 million). In connection with this line of credit, we agreed to seek consent of the lender prior to reducing our interest in the subsidiary-borrower below 100%.

 

We have additional borrowing arrangements available through our Japanese subsidiary; including a 1.35 billion yen-denominated revolving line of credit facility (approximately $12.6 million as of December 31, 2003)

 

32


Table of Contents

and a 0.5 billion yen-denominated overdraft line of credit facility (approximately $4.7 million as of December 31, 2003). These facilities, which mature on August 31, 2004, are unsecured, do not contain financial covenants and are not guaranteed by us. As of December 31, 2003, there were no borrowings outstanding under the facilities.

 

Our liquidity may also be affected by our transition services agreement with KPMG LLP. Under the transition services agreement with KPMG LLP (which terminated on February 8, 2004 for most non-technology services and terminates no later than February 8, 2005 for technology-related services and certain non-technology related services), we contracted to receive certain infrastructure support services from KPMG LLP until we complete the build-out of our own infrastructure. If we terminate services prior to the end of the term for such services, we may be obligated to pay KPMG LLP termination costs, as defined in the transition services agreement, incurred as a result of KPMG LLP winding down and terminating such services. We and KPMG LLP have agreed that during the term of the transition services agreement the parties will work together to minimize any termination costs (including transitioning personnel and contracts from KPMG LLP to our Company), and we will wind down our receipt of services from KPMG LLP and develop our own internal infrastructure and support capabilities or seek third party providers of such services.

 

During fiscal year 2002, we and KPMG LLP agreed that we would pay termination costs for certain services relating to human resources, training, purchasing, facilities management and knowledge management of $1.0 million. In August 2002, we reached a settlement with KPMG LLP relating to a dispute about the determination of costs under the transition services agreement, resulting in KPMG LLP paying us $8.4 million. During the year ended June 30, 2003, we terminated certain human resources services for which we were charged $1.1 million in termination costs. During the year ended June 30, 2003, we also recovered $2.1 million as a result of our review of KPMG LLP’s charges for fiscal year 2002 and related adjustments to the charges for fiscal year 2003. During the six months ended December 31, 2003, we terminated certain technology services for which we were charged $3.2 million in termination costs. In addition, we recovered $2.0 million as a result of our review of KPMG LLP’s charges for fiscal year 2003 and related adjustments to the charges for the six months ended December 31, 2003.

 

Effective October 1, 2002, we and KPMG LLP entered into an Outsourcing Services Agreement under which KPMG LLP provides certain services relating to office space that were previously provided under the transition services agreement. The services will be provided for three years at a cost that is less than the cost for comparable services under the transition services agreement. Additionally, KPMG LLP has agreed that there will be no termination costs with respect to the office-related services at the end of the three-year term of the Outsourcing Services Agreement.

 

At this time there are no terminated services for which termination costs remain unknown. The amount of termination costs that we will pay to KPMG LLP depends upon the timing of service terminations, the ability of the parties to work together to minimize the costs, and the amount of payments required under existing contracts with third parties for services provided to us by KPMG LLP and which can continue to be obtained directly by us thereafter. The amount of termination costs that we will pay to KPMG LLP under the transition services agreement with respect to services that are terminated after December 31, 2003 cannot be reasonably estimated at this time. We believe that the amount of termination costs yet to be assessed will not have a material adverse effect on our consolidated financial position, cash flows, or liquidity in a particular quarter or fiscal year cannot be determined at this time.

 

During the fiscal year ended June 30, 2003, we purchased from KPMG LLP $32.4 million of leasehold improvements. Based on information currently available, we anticipate paying KPMG LLP approximately $40.0 million to $60.0 million for the sale and transfer of additional capital assets (such as computer equipment, furniture and leasehold improvements). Currently we contract for the use of such capital assets through the transition services agreement (for which usage charges are included in the monthly costs under the agreement). We made no additional purchases of capital assets from KPMG LLP during the six months ended December 31, 2003.

 

33


Table of Contents

During the first half of fiscal year 2003, we significantly expanded our international operations through acquisitions. Some of our acquired operations had pre-existing defined benefit pension plans, and as such we have become the sponsor of these plans. We use the actuarial models required by SFAS No. 87, “Employers’ Accounting for Pensions,” to account for our pension plans. Our pension plans include both funded and unfunded noncontributory defined benefit pension plans that provide benefits based on years of service and salary. As of December 31, 2003, the projected benefit obligation for our defined benefit pension plans was $88.9 million, of which $66.2 million represents the unfunded portion of this liability. We also sponsor an unfunded postretirement medical plan. This plan is accounted for in accordance with SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” which requires the Company to accrue for future postretirement medical benefits. As of December 31, 2003, the net liability for our postretirement medical benefits was $6.9 million.

 

In the normal course of business, we have indemnified third parties and have commitments and guarantees under which we may be required to make payments in certain circumstances. These indemnities, commitments and guarantees include: indemnities of KPMG LLP with respect to the consulting business that was transferred to us in January 2000; indemnities to third parties in connection with performance bonds; indemnities to various lessors in connection with facility leases; indemnities to customers related to intellectual property and performance of services subcontracted to other providers; and indemnities to directors and officers under the organizational documents of the Company. The duration of these indemnities, commitments and guarantees varies, and in certain cases, is indefinite. Certain of these indemnities, commitments and guarantees do not provide for any limitation of the maximum potential future payments we could be obligated to make. As of December 31, 2003, we have approximately $142.9 million of outstanding bid and performance bonds and $35.2 million of outstanding letters of credit for which we may be required to make future payment. We have never incurred material costs to settle claims or defend lawsuits related to these indemnities, commitments and guarantees. As a result, the estimated fair value of these agreements is minimal. Accordingly, no liabilities have been recorded for these agreements as of December 31, 2003.

 

We continue to actively manage client billings and collections and maintain tight controls over discretionary spending. We believe that the cash provided from operations, borrowings available under the various existing credit facilities, and existing cash balances will be sufficient to meet working capital and capital expenditure needs for at least the next 12 months. We also believe that we will generate enough cash from operations, have sufficient borrowing capacity under the various existing credit facilities (including the $250 million revolving credit facility) and have sufficient access to the capital markets to meet our long-term liquidity needs.

 

Recently Adopted Accounting Pronouncements

 

In November 2002, the EITF issued a final consensus on Issue 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables,” which addresses how to account for arrangements that may involve the delivery or performance of multiple products, services, and/or rights to use assets. Issue 00-21 limits the amount of revenue that can be allocated to a delivered element to the amount that is not contingent on future delivery of another element. If the amount of non-contingent revenue allocated to a delivered element is less than the costs to deliver such services, then such costs are deferred and recognized in future periods when the revenue becomes non-contingent. Issue 00-21 is effective prospectively for arrangements entered into in fiscal periods beginning after June 15, 2003. Companies may also elect to apply the provisions of Issue 00-21 to existing arrangements and record the income statement impact as the cumulative effect of a change in accounting principle. Effective July 1, 2003, we adopted Issue 00-21 on a prospective basis. The adoption of Issue 00-21 did not have a significant impact on our results of operations, financial position or cash flows.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 is effective for instruments entered into or modified after May 31, 2003 and was otherwise effective for our quarter ended September 30, 2003. The adoption of SFAS No. 150 did not have a material impact on our results of operations, financial position or cash flows.

 

 

34


Table of Contents

In January 2003, the FASB issued FASB Interpretation (“FIN”) No. 46, “Consolidation of Variable Interest Entities,” as amended by FIN No. 46(R) in December 2003. FIN No. 46 (R) requires certain variable interest entities to be consolidated by the primary beneficiary if the entity does not effectively disperse risk among the parties involved. The provisions of FIN No. 46 (R) are effective immediately for those variable interest entities created after January 31, 2003. The provisions were effective for our quarter ended September 30, 2003 for those variable interest entities held prior to February 1, 2003. We do not currently have any variable interest entities as defined in FIN No. 46 (R). Consequently, the adoption of FIN No. 46 (R) had no material impact on our results of operations, financial position or cash flows.

 

35


Table of Contents

DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

 

Some of the statements in this report constitute “forward-looking statements” within the meaning of the United States Private Securities Litigation Reform Act of 1995. These statements relate to our operations that are based on our current expectations, estimates and projections. Words such as “may,” “will,” “could,” “would,” “should,” “anticipate,” “predict,” “potential,” “continue,” “expects,” “intends,” “plans,” “projects,” “believes,” “estimates” and similar expressions are used to identify these forward-looking statements. These statements are only predictions and as such are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. Forward-looking statements are based upon assumptions as to future events or our future financial performance that may not prove to be accurate. Actual outcomes and results may differ materially from what is expressed or forecast in these forward-looking statements. As a result, these statements speak only as of the date they were made, and we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

Our actual results may differ from the forward-looking statements for many reasons, including:

 

  any continuation of the global economic downturn and challenging economic conditions;

 

  the business decisions of our clients regarding the use of our services;

 

  the timing of projects and their termination;

 

  the availability of talented professionals to provide our services;

 

  the pace of technological change;

 

  the strength of our joint marketing relationships;

 

  the actions of our competitors;

 

  unexpected difficulties with our global initiatives and transactions (such as the acquisition of BearingPoint GmbH), including rationalization of assets and personnel and managing or integrating the related assets, personnel or businesses;

 

  changes in spending policies or budget priorities of the U.S. Government, particularly the Department of Defense, in light of the large U.S. budget deficit; and

 

  our inability to use losses in some of our foreign subsidiaries to offset earnings in the U.S.

 

In addition, our results and forward-looking statements could be affected by general domestic and international economic and political conditions, uncertainty as to the future direction of the economy and vulnerability of the economy to domestic or international incidents, as well as market conditions in our industry. For a more detailed discussion of certain of these factors, see Exhibit 99.1, “Factors Affecting Future Financial Results,” to this Form 10-K. We caution the reader that the factors we have identified above may not be exhaustive. We operate in a continually changing business environment, and new factors that may affect our forward-looking statements emerge from time to time. Management cannot predict such new factors, nor can it assess the impact, if any, of such new factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those implied by any forward-looking statements.

 

36


Table of Contents
Item 7A. Quantitative and Qualitative Disclosures About Market Risk

 

Our market sensitive financial instruments include fixed and variable interest rate U.S. dollar denominated debt and variable rate Japanese yen denominated debt. For additional information refer to Note 7, “Notes Payable,” of the Notes to Consolidated Financial Statements. The use of derivative financial instruments has been limited to treasury lock instruments, which were entered into in order to secure the interest rate of our private placement senior notes. All treasury lock instruments were settled as of November 6, 2002.

 

The table below presents principal cash flows and related weighted average interest rates by expected maturity dates for our market sensitive financial instruments:

 

    

Expected Maturity Date

Year ended December 31,

(In thousands U.S. Dollars, except interest rates)


Interest Rate Risk


   2004

    2005

    2006

    2007

    2008

   Total

    Fair
Value


Japanese Yen Functional Currency

                                       

Third party Japanese Yen denominated debt—variable rate

   9,345     9,345     4,617     —       —      23,307     23,307

Average interest rate

   1.5 %   1.5 %   1.5 %   —       —      1.5 %    

U.S. Dollar Functional Currency

                                       

Third party Structured notes—variable rate

   —       29,000     46,000     145,000     —      220,000     232,052

Average interest rate

   —       4.0 %   4.5 %   5.0 %   —      4.8 %    

U.S. Dollar Functional Currency

                                       

Third party revolving credit facility—variable rate

   —       4,000     —       —       —      4,000     4,000

Average interest rate

   —       2.4 %   —       —       —      2.4 %    

 

37


Table of Contents
Item  8. Financial Statements and Supplementary Data

 

REPORT OF INDEPENDENT AUDITORS

 

To the Board of Directors and Stockholders

of BearingPoint, Inc.

 

In our opinion, the accompanying consolidated balance sheet and the related consolidated statements of operations, changes in stockholders’ equity and cash flows present fairly, in all material respects, the financial position of BearingPoint, Inc. and its subsidiaries (the “Company”) at December 31, 2003 and June 30, 2003, and the results of their operations and their cash flows for the six months ended December 31, 2003 and for the year ended June 30, 2003 in conformity with accounting principles generally accepted in the United States of America. 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 of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. The consolidated financial statements as of June 30, 2002 and for the two year period then ended were audited by other auditors whose report dated August 6, 2002, except for Note 2, under the subheading “Stock-Based Compensation,” as to which the date is September 29, 2003, and Note 21, as to which the date is April 12, 2004, expressed an unqualified opinion on those statements.

 

PricewaterhouseCoopers LLP

April 15, 2004

 

38


Table of Contents

REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

 

To the Board of Directors and Stockholders

BearingPoint, Inc.

 

We have audited the accompanying consolidated balance sheet of BearingPoint, Inc. (formerly KPMG Consulting, Inc.) as of June 30, 2002, and the related consolidated statements of operations, changes in stockholders’ equity (deficit) and cash flows for the years ended June 30, 2002 and 2001. These financial statements are the responsibility of management of BearingPoint, Inc. Our responsibility is to express an opinion on these financial statements based on our audits.

 

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit 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 Note 2 of the Consolidated Financial Statements, the Company has restated its 2002 and 2001 proforma net loss and loss per share disclosures required by SFAS No. 123, “Accounting for Stock-Based Compensation”.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of BearingPoint, Inc. as of June 30, 2002, and the consolidated results of operations, changes in stockholders’ equity (deficit) and cash flows for the years ended June 30, 2002 and 2001, in conformity with accounting principles generally accepted in the United States of America.

 

As discussed in Note 5 of the notes to the Consolidated Financial Statements, the Company adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”) on July 1, 2001.

 

GRANT THORNTON LLP

 

New York, New York

August 6, 2002 except for Note 2,

under the subheading “Stock-Based Compensation”,

as to which the date is September 29, 2003 and

Note 21, as to which the date is April 12, 2004

 

39


Table of Contents

BEARINGPOINT, INC.

 

CONSOLIDATED BALANCE SHEETS

(in thousands, except share amounts)

 

     December 31,
2003


    June 30,
2003


    June 30,
2002


 

ASSETS

                        

Current assets:

                        

Cash and cash equivalents

   $ 122,723     $ 121,790     $ 222,636  

Accounts receivable, net of allowances of $17,240 at December 31, 2003, $18,727 at June 30, 2003 and $28,645 at June 30, 2002

     357,620       377,422       246,792  

Unbilled revenue

     293,559       190,918       128,883  

Deferred income taxes

     35,291       36,195       27,390  

Prepaid expenses

     29,135       30,932       18,743  

Other current assets

     23,953       17,476       21,808  
    


 


 


Total current assets

     862,281       774,733       666,252  

Property and equipment, net

     203,341       208,785       125,928  

Goodwill

     981,222       1,024,830       87,663  

Other intangible assets, net

     8,156       18,883       10,211  

Deferred income taxes, less current portion

     50,539       24,606       14,604  

Other assets

     23,908       14,567       9,512  
    


 


 


Total assets

   $ 2,129,447     $ 2,066,404     $ 914,170  
    


 


 


LIABILITIES AND STOCKHOLDERS’ EQUITY

                        

Current liabilities:

                        

Current portion of notes payable

   $ 9,345     $ 8,364     $ 1,846  

Accounts payable

     197,975       103,102       62,810  

Accrued payroll and employee benefits

     175,830       213,046       130,554  

Deferred revenue

     72,473       50,752       19,072  

Income tax payable

     21,082       39,857       —    

Current portion of accrued lease and facilities charge

     22,048       5,283       —    

Deferred income taxes

     4,268       —         —    

Other current liabilities

     126,375       110,063       85,732  
    


 


 


Total current liabilities

     629,396       530,467       300,014  

Notes payable, less current portion

     238,883       268,812       —    

Accrued employee benefits

     62,821       47,501       —    

Accrued lease and facilities charge, less current portion

     33,465       4,884       —    

Deferred income taxes, less current portion

     4,549       3,280       —    

Other liabilities

     28,675       21,807       12,286  
    


 


 


Total liabilities

     997,789       876,751       312,300  
    


 


 


Commitments and contingencies (Note 13)

                        

Stockholders’ equity:

                        

Preferred Stock, $.01 par value 10,000,000 shares authorized

     —         —         —    

Common Stock, $.01 par value 1,000,000,000 shares authorized, 198,295,364 shares issued and 194,483,114 shares outstanding on December 31, 2003, 195,475,392 shares issued and 191,663,142 shares outstanding on June 30, 2003 and 161,478,409 shares issued and 157,666,159 shares outstanding on June 30, 2002

     1,973       1,945       1,605  

Additional paid-in capital

     1,105,631       1,087,203       689,210  

Retained earnings (accumulated deficit)

     (157,804 )     7,963       (41,421 )

Notes receivable from stockholders

     (9,114 )     (9,136 )     (10,151 )

Accumulated other comprehensive income (loss)

     226,699       137,405       (1,646 )

Treasury stock, at cost (3,812,250 shares)

     (35,727 )     (35,727 )     (35,727 )
    


 


 


Total stockholders’ equity

     1,131,658       1,189,653       601,870  
    


 


 


Total liabilities and stockholders’ equity

   $ 2,129,447     $ 2,066,404     $ 914,170  
    


 


 


 

The accompanying footnotes are an integral part of these consolidated financial statements.

 

 

40


Table of Contents

BEARINGPOINT, INC.

 

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except share and per share amounts)

 

     Six Months
Ended
December 31,
2003


    Year Ended June 30,

 
       2003

    2002

    2001

 

Revenue

   $ 1,554,431     $ 3,139,277     $ 2,367,627     $ 2,855,824  
    


 


 


 


Costs of service:

                                

Professional compensation

     689,770       1,422,691       940,829       1,084,751  

Other direct contract expenses

     420,444       721,217       592,634       751,951  

Lease and facilities charges

     61,686       17,592       —         —    

Impairment charge

     —         —         23,914       7,827  

Other costs of service

     129,507       262,506       209,398       296,548  
    


 


 


 


Total costs of service

     1,301,407       2,424,006       1,766,775       2,141,077  
    


 


 


 


Gross profit

     253,024       715,271       600,852       714,747  

Amortization of purchased intangible assets

     10,651       44,702       3,014       —    

Amortization of goodwill

     —         —         —         18,176  

Goodwill impairment charge

     127,326       —         —         —    

Selling, general and administrative expenses

     273,775       556,097       464,806       475,090  
    


 


 


 


Operating income (loss)

     (158,728 )     114,472       133,032       221,481  

Interest income

     646       2,346       3,144       2,386  

Interest expense

     (7,233 )     (15,075 )     (2,248 )     (17,175 )

Gain on sale of assets

     —         —         —         6,867  

Equity in losses of affiliate and loss on redemption of equity interest in affiliate

     —         —         —         (76,019 )

Other income (expense), net

     2,379       (2,677 )     658       (692 )
    


 


 


 


Income (loss) before taxes

     (162,936 )     99,066       134,586       136,848  

Income tax expense

     2,831       57,759       81,524       101,897  
    


 


 


 


Income (loss) before cumulative effect of change in accounting principle

     (165,767 )     41,307       53,062       34,951  

Cumulative effect of change in accounting principle, net of tax

     —         —         (79,960 )     —    
    


 


 


 


Net income (loss)

     (165,767 )     41,307       (26,898 )     34,951  

Dividend on Series A Preferred Stock

     —         —         —         (31,672 )

Preferred stock conversion discount

     —         —         —         (131,250 )
    


 


 


 


Net income (loss) applicable to common stockholders

   $ (165,767 )   $ 41,307     $ (26,898 )   $ (127,971 )
    


 


 


 


Earnings (loss) per share—basic and diluted:

                                

Income (loss) before cumulative effect of change in accounting principle applicable to common stockholders

   $ (0.86 )   $ 0.22     $ 0.34     $ (1.19 )

Cumulative effect of change in accounting principle

     —         —         (0.51 )     —    
    


 


 


 


Net income (loss) applicable to common stockholders

   $ (0.86 )   $ 0.22     $ (0.17 )   $ (1.19 )
    


 


 


 


Weighted average shares—basic

     193,596,759       185,461,995       157,559,989       107,884,143  
    


 


 


 


Weighted average shares—diluted

     193,596,759       185,637,693       158,715,730       107,884,143  
    


 


 


 


 

The accompanying footnotes are an integral part of these consolidated financial statements.

 

41


Table of Contents

BEARINGPOINT, INC.

 

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(in thousands)

    Common Stock

 

Additional

Paid-in

Capital

(Deficit)


   

Retained

Earnings

(Accumulated

Deficit)


   

Notes

Receivable

from

Stockholders


   

Accumulated

Other

Comprehensive

Income (Loss)


    Treasury Stock

    Total

 
    Shares
Issued


    Amount

          Shares

    Amount

   

Balance at June 30, 2000

  76,880     $ 759   $ (643,415 )   $ (17,802 )   $ (5,845 )   $ (1,272 )   —       $ —       $ (667,575 )

Cash dividend on Series A Preferred Stock

  —         —       —         (31,672 )     —         —       —         —         (31,672 )

Issuance of stock in exchange for KPMG LLP’s 0.5% interest in our operating subsidiary

  433       4     (4 )     —         —         —       —         —         —    

Initial public offering proceeds, net of transaction costs

  34,244       342     563,150       —         —         —       —         —         563,492  

Conversion of preferred stock to common stock

  44,607       446     802,475       —         —         —       —         —         802,921  

Preferred stock conversion discount

  —         —       (131,250 )     —         —         —       —         —         (131,250 )

Conversion of acquisition obligations

  2,455       25     65,337       —         —         —       —         —         65,362  

Shares retired

  (50 )     —       —         —         —         —       —         —         —    

Notes receivable from stockholders, including $517 in interest

  —         —       —         —         (2,105 )     —       —         —         (2,105 )

Comprehensive income:

                                                                 

Net income

  —         —       —         34,951       —         —       —         —         34,951  

Foreign currency translation adjustment, net of tax

  —         —       —         —         —         (2,012 )   —         —         (2,012 )
                                                             


Total comprehensive income

  —         —       —         —         —         —       —         —         32,939  
   

 

 


 


 


 


 

 


 


Balance at June 30, 2001

  158,569       1,576     656,293       (14,523 )     (7,950 )     (3,284 )   —         —         632,112  

Exercise of stock options under Long-Term Incentive Plan, including tax benefit of $181

  209       2     3,782       —         —         —       —         —         3,784  

Transfer of shares in trust to treasury

  —         —       —         —         —         —       (999 )     —         —    

Common stock repurchased

  —         —       —         —         —         —       (2,813 )     (35,727 )     (35,727 )

Sale of common stock under Employee Stock Purchase Plan, including tax benefit of $995

  2,280       23     27,273       —         —         —       —         —         27,296  

Compensation recognized under
Long-Term Incentive Plan for restricted stock

  420       4     1,862       —         —         —       —         —         1,866  

Notes receivable from stockholders, including $529 in interest

  —         —       —         —         (2,201 )     —       —         —         (2,201 )

Comprehensive loss:

                                                                 

Net loss

  —         —       —         (26,898 )     —         —       —         —         (26,898 )

Foreign currency translation adjustment, net of tax

  —         —       —         —         —         1,638     —         —         1,638  
                                                             


Total comprehensive loss

  —         —       —         —         —         —       —         —         (25,260 )
   

 

 


 


 


 


 

 


 


Balance at June 30, 2002

  161,478       1,605     689,210       (41,421 )     (10,151 )     (1,646 )   (3,812 )     (35,727 )     601,870  

 

 

The accompanying footnotes are an integral part of these consolidated financial statements.

 

 

42


Table of Contents

BEARINGPOINT, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY—(Continued)

(in thousands)

 

     Common Stock

 

Additional

Paid-in

Capital

(Deficit)


   

Retained

Earnings

(Accumulated

Deficit)


   

Notes

Receivable

from

Stockholders


   

Accumulated

Other

Comprehensive

Income (Loss)


    Treasury Stock

    Total

 
     Shares
Issued


    Amount

          Shares

    Amount

   

Balance at June 30, 2002

   161,478       1,605     689,210       (41,421 )     (10,151 )     (1,646 )   (3,812 )     (35,727 )     601,870  

Adjustment relating to notes receivable from stockholders

   —         —       (9,068 )     8,077       991       —       —         —         —    

Sale of common stock under Employee Stock Purchase Plan, including tax benefit of $804

   3,548       35     27,695       —         —         —       —         —         27,730  

Notes receivable from stockholders, including $72 in interest and repayment of loan

   —         —       —         —         24       —       —         —         24  

Issuance of common stock in connection with acquisition of KPMG Consulting AG (BE Germany)

   30,471       305     364,132       —         —         —       —         —         364,437  

Restricted stock awards to board of directors

   20       —       157       —         —         —       —         —         157  

Compensation recognized under Long-Term Incentive Plan for restricted stock, net of tax benefit of $16

   —         —       1,546       —         —         —       —         —         1,546  

Compensation recognized for stock awards related to transactions involving Andersen Business Consulting

   8       —       13,531       —         —         —       —         —         13,531  

Forfeiture of restricted stock

   (50 )     —       —         —         —         —       —         —         —    

Comprehensive income:

                                                                  

Net income

   —         —       —         41,307       —         —       —         —         41,307  

Derivative instruments, net of tax

   —         —       —         —         —         411     —         —         411  

Foreign currency translation adjustment, net of tax

   —         —       —         —         —         138,640     —         —         138,640  
                                                              


Total comprehensive income

   —         —       —         —         —         —       —         —         180,358  
    

 

 


 


 


 


 

 


 


Balance at June 30, 2003

   195,475       1,945     1,087,203       7,963       (9,136 )     137,405     (3,812 )     (35,727 )     1,189,653  

Exercise of stock options under Long-Term Incentive Plan, net of tax benefit of $7

   9       —       67       —         —         —       —         —         67  

Sale of common stock under Employee Stock Purchase Plan, net of tax benefit of $1,033

   1,561       16     11,483       —         —         —       —         —         11,499  

Notes receivable from stockholders, including $36 in interest and repayment of loan

   —         —       —         —         22       —       —         —         22  

Restricted stock awards to board of directors

   56       —       451       —         —         —       —         —         451  

Compensation recognized under Long-Term Incentive Plan for restricted stock, net of tax benefit of $28

   —         —       698       —         —         —       —         —         698  

Compensation recognized for stock awards related to transactions involving Andersen Business Consulting, net of tax of $928

   1,232       12     5,729       —         —         —       —         —         5,741  

Forfeiture of restricted stock

   (10 )     —       —         —         —         —       —         —         —    

Forfeiture of Founders’ shares

   (28 )     —       —         —         —         —       —         —         —    

Comprehensive loss:

                                                                  

Net loss

   —         —       —         (165,767 )     —         —       —         —         (165,767 )

Derivative instruments, net of tax

   —         —       —         —         —         (79 )   —         —         (79 )

Foreign currency translation adjustment, net of tax

   —         —       —         —         —         89,373     —         —         89,373  
                                                              


Total comprehensive loss

                                                               (76,473 )
    

 

 


 


 


 


 

 


 


Balance at December 31, 2003

   198,295     $ 1,973   $ 1,105,631     $ (157,804 )   $ (9,114 )   $ 226,699     (3,812 )   $ (35,727 )   $ 1,131,658  
    

 

 


 


 


 


 

 


 


 

The accompanying footnotes are an integral part of these consolidated financial statements.

 

 

43


Table of Contents

BEARINGPOINT, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

    

Six Months Ended

December 31,

2003


    Year Ended June 30,

 
       2003

    2002

    2001

 

Cash flows from operating activities:

                                

Net income (loss)

   $ (165,767 )   $ 41,307     $ (26,898 )   $ 34,951  

Adjustments to reconcile to net cash provided by operating activities:

                                

Cumulative effect of change in accounting principle, net of tax

     —         —         79,960       —    

Equity in losses of affiliate and loss on redemption of equity interest in affiliate

     —         —         —         76,019  

Deferred income taxes

     (19,257 )     (22,461 )     (7,286 )     (13,213 )

Gain on sale of assets

     —         —         —         (6,867 )

Debt conversion discount

     —         —         —         1,698  

Stock awards

     7,818       15,217       1,862       —    

Impairment of goodwill

     127,326       —         —         —    

Depreciation and amortization of property and equipment

     37,141       71,501       46,306       42,846  

Amortization of purchased intangible assets

     10,651       44,284       3,014       —    

Amortization of goodwill

     —         —         —         18,176  

Lease and facilities charges

     61,686       —         —         —    

Impairment charge

     —         —         23,914       7,827  

Minority interests

     —         —         —         140  

Changes in assets and liabilities:

                                

Accounts receivable

     32,578       1,195       132,054       (51,864 )

Unbilled revenue

     (97,558 )     (26,384 )     52,990       59,180  

Prepaid expenses and other current assets

     (601 )     4,198       35,795       (1,190 )

Other assets

     (11,206 )     509       2,999       1,321  

Accrued payroll and employee benefits

     (42,612 )     (42,205 )     (47,561 )     27,519  

Accounts payable and other current liabilities

     87,600       50,311       (29,914 )     (38,945 )

Distribution payable to managing directors

     —         —         —         (73,230 )

Other liabilities

     15,819       16,510       (416 )     —    
    


 


 


 


Net cash provided by operating activities:

     43,618       153,982       266,819       84,368  
    


 


 


 


Cash flows from investing activities:

                                

Purchases of property and equipment

     (34,889 )     (126,070 )     (50,603 )     (74,888 )

Businesses acquired, net of cash acquired

     —         (422,247 )     (33,203 )     (13,599 )

Investment in affiliate

     —         —         —         (9,945 )

Purchases of equity investments

     —         —         (2,234 )     (7,500 )
    


 


 


 


Net cash used in investing activities:

     (34,889 )     (548,317 )     (86,040 )     (105,932 )
    


 


 


 


Cash flows from financing activities:

                                

Proceeds from issuance of common stock

     10,526       26,927       29,908       563,492  

Repurchases of common stock

     —         —         (35,727 )     —    

Proceeds from notes payable

     226,271       1,647,045       —         283  

Repayment of notes payable

     (257,578 )     (1,380,595 )     (13,512 )     (54,670 )

Repayment of acquisition obligations

     —         —         —         (42,033 )

Repayment of Series A Preferred Stock

     —         —         —         (378,329 )

Increase (decrease) in book overdrafts

     8,183       (2,447 )     (28,374 )     26,563  

Repurchase of minority interest in subsidiary

     —         —         (2,093 )     (1,914 )

Notes receivable from stockholders

     22       95       (1,672 )     (1,588 )

Dividends paid on Series A Preferred Stock

     —         —         —         (44,754 )
    


 


 


 


Net cash provided by (used in) financing activities:

     (12,576 )     291,025       (51,470 )     67,050  
    


 


 


 


Effect of exchange rate changes on cash and cash equivalents

     4,780       2,464       —         —    
    


 


 


 


Net increase (decrease) in cash and cash equivalents

     933       (100,846 )     129,309       45,486  

Cash and cash equivalents—beginning of period

     121,790       222,636       93,327       47,841  
    


 


 


 


Cash and cash equivalents—end of period

   $ 122,723     $ 121,790     $ 222,636     $ 93,327  
    


 


 


 


Supplementary cash flow information:

                                

Interest paid

   $ 8,751     $ 15,355     $ 1,351     $ 20,900  
    


 


 


 


Taxes paid

   $ 40,695     $ 42,255     $ 62,975     $ 149,585  
    


 


 


 


Supplemental non-cash investing and financing activities:

                                

Issuance of common stock for business acquisition

   $ —       $ 364,437     $ —       $ —    

Acquisition obligations from business acquisition

   $ —       $ —       $ —       $ 42,880  

Conversion of acquisition obligations to common stock

   $ —       $ —       $ —       $ 65,362  

Conversion of Series A Preferred Stock to common stock

   $ —       $ —       $ —       $ 802,921  

Series A Preferred Stock conversion discount

   $ —       $ —       $ —       $ (131,250 )

 

The accompanying footnotes are an integral part of these consolidated financial statements.

 

44


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(in thousands, except share and per share amounts)

 

1. Description of the Business and Basis of Presentation

 

BearingPoint, Inc. (the “Company”) is a large business consulting, systems integration and managed services firm with approximately 15,000 employees at December 31, 2003 serving Global 2000 companies, medium-sized businesses, government agencies and other organizations. The Company provides business and technology strategy, systems design, architecture, applications implementation, network, systems integration and managed services. The Company’s service offerings are designed to help its clients generate revenue, reduce costs and access the information necessary to operate their business on a timely basis. The Company delivers consulting and systems integration services through industry groups in which it possesses significant industry-specific knowledge. These industry groups consist of Public Services, Communications & Content, Financial Services and Consumer, Industrial and Technology (representing the integration of the former High Technology and Consumer and Industrial Markets industry groups). In addition, the Company has existing multinational operations in North America, Latin America, the Asia Pacific region, and Europe, Middle East and Africa (“EMEA”).

 

On January 17, 2001, the Company’s board of directors and stockholders approved a reverse stock split of approximately one for 5.045 effective immediately prior to its initial public offering. All share and per share amounts reflect this reverse stock split.

 

During February 2001, the Company sold approximately 34,200,000 shares of common stock in an initial public offering, and a selling stockholder (KPMG LLP) sold an additional 95,100,000 shares of common stock (including approximately 29,200,000 shares of common stock that were issued in connection with the conversion of the Series A Preferred Stock that was purchased by KPMG LLP), for a total offering of approximately 129,300,000 shares. In connection with the initial public offering, the Company also repurchased approximately 1,400,000 shares of the Series A Preferred Stock for $378,329 in cash, and the remaining shares of Series A Preferred Stock were converted into approximately 15,400,000 shares of common stock. The Company’s proceeds from the initial public offering, net of underwriting discount of $24,655 and the pro rata portion of other expenses of the offering of $28,239, were $563,492. Of the net proceeds, $378,329 was used to repurchase approximately 1,400,000 shares of Series A Preferred Stock, $112,000 was used to repay all the Company’s outstanding indebtedness to KPMG LLP, and $70,000 was used to repay bank loans.

 

On February 2, 2004, the Company’s board of directors approved a change in the Company’s fiscal year end from a twelve-month period ending June 30 to a twelve-month period ending December 31. As a requirement of this change, the consolidated financial statements include presentation of the transition period beginning on July 1, 2003 and ending on December 31, 2003.

 

45


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

The following table presents certain financial information for the six months ended December 31, 2003 and 2002, respectively.

 

    

Six Months Ended

December 31,


 
     2003

    2002

 
           (unaudited)  

Revenue

   $ 1,554,431     $ 1,540,272  
    


 


Costs of service:

                

Professional compensation

     689,770       689,009  

Other direct contract expenses

     420,444       341,663  

Lease and facilities charge

     61,686       2,265  

Other costs of service

     129,507       139,001  
    


 


Total costs of service

     1,301,407       1,171,938  
    


 


Gross profit

     253,024       368,334  

Amortization of purchased intangible assets

     10,651       19,334  

Goodwill impairment charge

     127,326       —    

Selling, general and administrative expenses

     273,775       283,581  
    


 


Operating income (loss)

     (158,728 )     65,419  

Interest/Other income (expense), net

     (4,208 )     (4,615 )
    


 


Income (loss) before taxes

     (162,936 )     60,804  

Income tax expense

     2,831       33,944  
    


 


Net income (loss)

   $ (165,767 )   $ 26,860  
    


 


Earnings (loss) per share—basic and diluted

   $ (0.86 )   $ 0.15  
    


 


Weighted average shares—basic

     193,596,759       180,278,748  
    


 


Weighted average shares—diluted

     193,596,759       180,408,595  
    


 


 

2. Summary of Significant Accounting Policies

 

Principles of Consolidation

 

The consolidated financial statements reflect the operations of the Company and all of its majority-owned subsidiaries. Upon consolidation, all significant intercompany accounts and transactions are eliminated. Certain of the Company’s consolidated foreign subsidiaries within EMEA and the Asia Pacific region report their results of operations on a one-month lag.

 

Reclassifications

 

To conform to current period presentation, book overdrafts for all prior periods have been reclassified from cash and cash equivalents to other current liabilities on the consolidated balance sheets. In addition, book overdrafts for all prior periods have been presented as a financing activity on the consolidated statements of cash flows.

 

Certain other prior period amounts have also been reclassified to conform to current period presentation. Such reclassifications were immaterial to the consolidated financial statements.

 

46


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

Segments

 

Operating segments are defined as components of an enterprise engaging in business activities about which separate financial information is available that is evaluated regularly by the Company’s chief operating decision-maker, the Chairman and Chief Executive Officer, in deciding how to allocate resources and assess performance. Through fiscal year 2002, the Company conducted operations within five reportable segments. The Company’s reportable segments were representative of the five major industry groups in which the Company had industry-specific knowledge. Upon completion of a series of international acquisitions during the first quarter of fiscal year 2003, the Company established three international operating segments (EMEA and the Asia Pacific and Latin America regions). Effective July 1, 2003, the Company combined its Consumer and Industrial Markets and High Technology industry groups to form the Consumer, Industrial and Technology industry group. For the six months ended December 31, 2003, the Company has seven reportable segments in addition to the Corporate/Other category (which consists primarily of infrastructure costs). Upon consolidation all intercompany accounts and transactions are eliminated. Inter-segment revenue is not included in the measure of profit or loss and total assets for each reportable segment. Prior year segment information has been reclassified to reflect current period presentation.

 

Use of Estimates

 

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported amounts of revenue and expenses. Management’s estimates and assumptions are derived from and continually evaluated based upon available information, judgment and experience. Management’s estimates and assumptions include, but are not limited to, estimates of collectibility of accounts receivable and unbilled revenue, costs to complete engagements, the realizability of goodwill and other intangible assets, accrued liabilities and other reserves, income taxes and other factors. Management has exercised reasonableness in deriving these estimates. However, actual results could differ from these estimates.

 

Revenue Recognition

 

The Company earns revenue from a range of consulting services, including, but not limited to, business and technology strategy, systems design, architecture, applications implementation, network infrastructure, systems integration and managed services. Revenue includes all amounts that are billed or billable to clients, including out-of-pocket costs such as travel and subsistence for client service professional staff, costs of hardware and software and costs of subcontractors (collectively referred to as “other direct contract expenses”). Unbilled revenue consists of recognized recoverable costs and accrued profits on contracts for which billings had not been presented to the clients as of the balance sheet date. Management anticipates that the collection of these amounts will occur within one year of the balance sheet date, with the exception of approximately $19,100 related to various long-term government agencies’ contracts. Billings in excess of revenue recognized are recorded as deferred revenue until the applicable revenue recognition criteria are met.

 

Services: The Company enters into long-term, fixed-price, time-and-materials, and cost-plus contracts to design, develop or modify multifaceted client-specific information technology systems. Such arrangements represent a significant portion of the Company’s business and are accounted for in accordance with AICPA Statement of Position (“SOP”) 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.” Arrangements accounted for under SOP 81-1 must have a binding, legally enforceable contract in place before revenue can be recognized. Revenue under fixed-price contracts is generally recognized using the percentage-of-completion method based upon costs to the client incurred as a percentage of the total estimated

 

47


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

costs to the client. Revenue under time-and-materials contracts is based on fixed billable rates for hours delivered plus reimbursable costs. Revenue under cost-plus contracts is recognized based upon reimbursable costs incurred plus estimated fees earned thereon.

 

The Company also enters into fixed-price and time-and-materials contracts to provide general business consulting services, including, but not limited to, systems selection or assessment, feasibility studies, and business valuation and corporate strategy services. Such arrangements are accounted for in accordance with Staff Accounting Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements” as amended by SAB No. 104, “Revenue Recognition.” Revenue from such arrangements is recognized when: i) there is persuasive evidence of an arrangement, ii) the fee is fixed or determinable, iii) services have been rendered and payment has been contractually earned, and iv) collectibility of the related receivable or unbilled revenue is reasonably assured.

 

The Company periodically performs reviews of estimated revenue and costs on all of its contracts at an individual engagement level to assess if they are consistent with initial assumptions. Any changes to estimates are recognized on a cumulative catch-up basis in the period in which the change is identified. Losses on contracts are recognized when identified. Circumstances that could potentially result in contract losses over the life of the contract include decreases in volumes of transactions or other inputs/outputs on which the Company is paid, failure to deliver agreed benefits, variances from planned internal/external costs to deliver its services, and other factors affecting revenues and costs. Additionally, the Company enters into arrangements in which it manages, staffs, maintains, hosts or otherwise runs solutions and systems provided to the client. Revenue from these types of arrangements is typically recognized on a ratable basis as earned over the term of the service period.

 

Software: The Company enters into a limited number of software licensing arrangements. The Company recognizes software license fee revenue in accordance with the provisions of SOP 97-2, “Software Revenue Recognition” and its related interpretations. Software licensing arrangements typically include multiple elements, such as software products, post-contract customer support, and consulting and training services. The aggregate arrangement fee is allocated to each of the undelivered elements based upon vendor-specific evidence of fair value (“VSOE”), with the residual of the arrangement fee allocated to the delivered elements. VSOE for each individual element is determined based upon prices charged to customers when these elements are sold separately. Fees allocated to each software element of the arrangement are recognized as revenue when the following criteria have been met: i) persuasive evidence of an arrangement exists, ii) delivery of the product has occurred, iii) the license fee is fixed or determinable, and iv) collectibility of the related receivable is probable. If evidence of fair value of the undelivered elements of the arrangement does not exist, all revenue from the arrangement is deferred until such time evidence of fair value does exist, or until all elements of the arrangement are delivered. Fees allocated to post-contract customer support are recognized as revenue ratably over the term of the support period. Fees allocated to other services are recognized as revenue as the services are performed. Revenue from monthly license charge or hosting arrangements is recognized on a subscription basis over the period in which the client uses the product.

 

Multiple-Element Arrangements for Service Offerings: In certain arrangements, the Company enters into contracts that include the delivery of a combination of two or more of its service offerings. Such arrangements are accounted for in accordance with Emerging Issues Task Force (“EITF”) Issue 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.” Typically, such multiple-element arrangements incorporate the design, development or modification of systems and an ongoing obligation to manage, staff, maintain, host or otherwise run solutions and systems provided to the client. Such contracts are divided into separate units of accounting and the total arrangement fee is allocated to each unit based on its relative fair value. Revenue is recognized separately, and in accordance with the Company’s revenue recognition policy, for each element.

 

48


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

Costs of Service

 

Costs of service generally include professional compensation and other direct contract expenses, as well as costs attributable to the support of client service professional staff, depreciation and amortization costs related to assets used in revenue generating activities, bad debt expense relating to accounts receivable, and other costs attributable to serving the Company’s client base. Professional compensation consists of payroll costs and related benefits associated with client service professional staff (including costs associated with reductions in workforce). Other direct contract expenses include costs directly attributable to client engagements. These costs include out-of-pocket costs such as travel and subsistence for client service professional staff, costs of hardware and software and costs of subcontractors. Most of the Company’s research and development activities have been incurred pursuant to specific client contracts and, accordingly, have been expensed as costs of service as incurred.

 

Lease and Facilities Charges

 

The lease and facilities charges represent the fair value of future lease obligations (net of estimated sublease income), the unamortized cost of fixed assets and the other costs incurred associated with the Company’s office space reduction efforts.

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses include expenses related to marketing, information systems, depreciation and amortization, finance and accounting, human resources, sales force, and other functions related to managing and growing the Company’s business. Advertising costs are expensed when advertisements are first placed or run. Advertising expense totaled $5,722 for the six months ended December 31, 2003 and $38,944, $12,215 and $8,979 for the years ended June 30, 2003, 2002 and 2001, respectively. Included in advertising expense for the year ended June 30, 2003 is $28,211 in costs associated with the Company’s rebranding initiative.

 

Cash Equivalents

 

Cash equivalents consist of demand deposits and highly liquid investments with insignificant interest rate risks and original maturities of three months or less at the time of acquisition. The Company’s cash equivalents consist of money market investments of $0, $18,900 and $153,800 at December 31, 2003, June 30, 2003 and June 30, 2002, respectively.

 

Concentrations of Credit Risk

 

Financial instruments, which potentially subject the Company to concentrations of credit risk, consist principally of cash and cash equivalents and accounts receivable and unbilled revenue. The Company places its temporary cash and cash equivalents with high credit qualified financial institutions, and, by policy, limits the amount of credit exposure to any one financial institution.

 

Periodically, the Company reviews accounts receivable to reassess its estimates of collectibility. The Company provides valuation reserves for bad debts based on specific identification of likely and probable losses. In addition, the Company provides valuation reserves for estimates of aged receivables that may be written off, based upon historical experience. These valuation reserves are periodically re-evaluated and adjusted as more information about the ultimate collectibility of accounts receivable becomes available. Circumstances that could cause the Company’s valuation reserves to increase include changes in its clients’ liquidity and credit quality, other factors negatively impacting its clients’ ability to pay their obligations as they come due, and the quality of its collection efforts.

 

49


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

The Company’s Public Services industry group has a significant portion of their engagements performed on a fixed-price or fixed-rate basis and derives revenue from departments and agencies of the U.S. government. While most of the Company’s government agency clients have the ability to unilaterally terminate their contracts, the Company’s relationships are generally not with political appointees, and the Company has not typically experienced a loss of federal government projects with a change of administration. U.S. government revenue accounted for 27.3%, 22.9%, 25.6% and 16.9% of the Company’s revenue for the six months ended December 31, 2003 and the years ended June 30, 2003, 2002 and 2001, respectively. Receivables due from the U.S. government were $70,035, $56,689 and $69,339 at December 31, 2003 and June 30, 2003 and 2002, respectively. Unbilled revenue due from the U.S. government was $25,633, $21,772 and $23,283 at December 31, 2003 and June 30, 2003 and 2002, respectively.

 

Property and Equipment

 

Equipment, furniture and leasehold improvements are recorded at cost less allowances for depreciation and amortization. The cost of software purchased or developed for internal use is capitalized in accordance with SOP 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use.” Depreciation is generally provided for all classes of assets for financial statement purposes using the straight-line method over the estimated useful lives of the assets, and both the straight-line and accelerated methods for income tax purposes. Equipment and furniture are depreciated over three to seven years. Leasehold improvements are amortized over the lesser of the remaining term of the respective lease or the expected life of the asset. Software purchased or developed for internal use is amortized over an estimated useful life ranging to five years. When assets are sold or retired, the Company removes the asset cost and related accumulated depreciation from the balance sheet, and records any associated gain or loss in the consolidated statement of operations.

 

Goodwill and Other Intangible Assets

 

Goodwill represents the cost of acquired companies in excess of the fair value of the net assets acquired. Goodwill is not amortized but instead tested for impairment at least annually. The Company performs this review annually on April 1 or whenever events or significant changes in circumstances indicate that the carrying value may not be recoverable. Events or circumstances that might require the need for more frequent tests include, but are not limited to: the loss of a number of significant clients, the identification of other impaired assets within a reporting unit, the disposition of a significant portion of a reporting unit, or a significant adverse change in business climate or regulations. The first step of the impairment test is a comparison of the fair value of a reporting unit to its carrying value. Reporting units are the Company’s North American industry groups and the international geographic segments. The fair value of a reporting unit is estimated using the Company’s projections of discounted future operating cash flows of the unit. Goodwill allocated to a reporting unit whose fair value is equal to or greater than its carrying value is not impaired and no further testing is required. A reporting unit whose fair value is less than its carrying value requires a second step to determine whether the goodwill allocated to the unit is impaired. The second step of the goodwill impairment test is a comparison of the implied fair value of a reporting unit’s goodwill to its carrying value. The implied fair value of a reporting unit’s goodwill is determined by allocating the fair value of the entire reporting unit to the assets and liabilities of that unit, including any unrecognized intangible assets, based on fair value. The excess of the fair value of the entire reporting unit over the amounts allocated to the identifiable assets and liabilities of the unit is the implied fair value of the reporting unit’s goodwill. Goodwill of a reporting unit is impaired when its carrying value exceeds its implied fair value. Impaired goodwill is written down to its implied fair value with a charge to expense in the period the impairment is identified. For additional information regarding goodwill, see Note 5, “Goodwill and Other Intangible Assets.”

 

50


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

Other identifiable intangible assets include finite-lived purchased intangible assets, which primarily consist of market rights, order backlog, customer contracts and related customer relationships, and trade name. Finite- lived purchased intangible assets are amortized using the straight-line method over their expected period of benefit, which generally ranges from one to five years.

 

Impairment of Long-Lived Assets

 

Long-lived assets and intangible assets subject to amortization are reviewed for impairment whenever changes in circumstances indicate that the carrying amount of such assets may not be fully recoverable. For property and equipment and finite-lived intangible assets to be held and used, impairment is determined by a comparison of the carrying amount of the asset to the estimated future undiscounted net cash flows expected to be generated by the asset. If such assets are determined to be impaired, the impairment recognized is the amount by which the carrying value of the assets exceeds the fair value of the assets. Property and equipment to be disposed of by sale is carried at the lower of its current carrying value or fair value less cost to sell.

 

Foreign Currency

 

Assets and liabilities of consolidated foreign subsidiaries, whose functional currency is the local currency, are translated to U.S. dollars at period end exchange rates. Revenue and expense items are translated to U.S. dollars at the average rates of exchange prevailing during the period. The adjustment resulting from translating the financial statements of such foreign subsidiaries to U.S. dollars is reflected as a cumulative translation adjustment and reported as a component of accumulated other comprehensive income (loss) in consolidated stockholders’ equity.

 

Cash flows of consolidated foreign subsidiaries, whose functional currency is the local currency, are translated to U.S. dollars using weighted average exchange rates for the period. The Company reports the effect of exchange rate changes on cash balances held in foreign currencies as a separate item in the reconciliation of the changes in cash and cash equivalents during the period.

 

Transactions denominated in currencies other than the functional currency are recorded based on exchange rates at the time such transactions arise. Subsequent changes in exchange rates result in transaction gains or losses, which are reflected within other income (expense) in the consolidated statement of operations. Net foreign currency transaction gains were $1,019 for the six months ended December 31, 2003 and $658 for the fiscal year ended June 30, 2002. Net foreign currency transaction losses were $2,689 and $552 for the fiscal years ended June 30, 2003 and 2001, respectively.

 

Fair Value of Financial Instruments

 

The Company has calculated the fair value of its financial instruments using a variety of factors and assumptions. Accordingly, the fair value may not represent actual values of the financial instruments that could have been realized at December 31, 2003 or at June 30, 2003 or 2002, or that will be realized in the future and do not include expenses that could be incurred in an actual sale or settlement.

 

The calculated fair value of the Company’s notes payable (including current portion) was $260,190 at December 31, 2003, and $296,675 and $1,846 at June 30, 2003 and 2002, respectively. The carrying value of the Company’s notes payable (including current portion) was $248,228 at December 31, 2003, and $277,176 and $1,846 at June 30, 2003 and 2002, respectively.

 

The carrying amounts of cash and cash equivalents and acquisition obligations (see Note 11) approximate their fair values due to the short maturity term related to these instruments.

 

51


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

Income Taxes

 

The Company accounts for corporate income taxes under the asset and liability method. Deferred income tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis, and to operating loss and tax credit carryforwards. Deferred tax assets and liabilities are separated into current and noncurrent amounts based on the classification of the related assets and liabilities for financial reporting purposes. A valuation allowance is provided to reduce deferred tax assets to the amount of future tax benefit when it is more likely than not that some portion of the deferred tax assets will not be realized. Projected future taxable income and ongoing tax planning strategies are considered and evaluated when assessing the need for a valuation allowance. Any increase or decrease in a valuation allowance could have a material adverse or beneficial impact on the Company’s income tax provision and net income in the period in which the determination is made. The Company’s tax provision is comprised of current taxes payable plus the change in deferred income taxes.

 

Pension and Postretirement Benefits

 

The Company offers pension and postretirement medical benefits to certain employees. Pension plans include both funded and unfunded noncontributory defined benefit pension plans. The Company uses the actuarial models required by Statement of Financial Accounting Standards (“SFAS”) No. 87, “Employers’ Accounting for Pensions,” to account for its pension plans. The postretirement medical plan is accounted for in accordance with SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” which requires the Company to accrue for future postretirement medical benefits. For additional information regarding postretirement benefits, see Note 19, “Employee Benefit Plans.”

 

Stock-Based Compensation

 

The Company has several stock-based employee compensation plans as described in Note 16. The Company accounts for stock-based compensation awards issued to employees by applying the intrinsic value method, whereby the difference between the quoted market price as of the date of grant and the contractual purchase price of shares is charged to operations over the vesting period. The Company generally recognizes no compensation expense with respect to stock-based awards issued to employees, as all options granted under the Company’s stock-based compensation plans have exercise prices equal to the market value of the Company’s common stock on the date of grant. With respect to restricted stock and other awards, compensation expense is measured based on the fair value of such awards as of the grant date and charged to expense using the straight-line method over the period of restriction or vesting period.

 

Pro forma information regarding net income (loss) and earnings (loss) per share is required assuming the Company had accounted for its stock-based awards to employees under the fair value method and amortized as a charge to earnings the estimated fair value of options and other stock awards over the awards’ vesting period. The weighted average fair value of stock options granted during the six months ended December 31, 2003 and the years ended June 30, 2003, 2002 and 2001 were $5.41, $6.20, $8.64 and $12.45, respectively. The fair value of options granted was estimated using the Black-Scholes option-pricing model with the following weighted average assumptions:

 

     Stock Price
Expected
Volatility


    Risk-Free
Interest
Rate


    Expected
Life


   Expected
Dividend
Yield


Six months ended December 31, 2003

   69.38 %   3.47 %   6    —  

Year ended June 30, 2003

   70.76 %   2.96 %   6    —  

Year ended June 30, 2002

   69.00 %   4.37 %   6    —  

Year ended June 30, 2001

   81.25 %   5.31 %   5    —  

 

52


Table of Contents

BEARINGPOINT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

(in thousands, except share and per share amounts)

 

The fair value of the Company’s common stock purchased under the Employee Stock Purchase Plan (“ESPP”) was estimated for the six months ended December 31, 2003 and for the fiscal years ended June 30, 2003, 2002 and 2001 using the Black-Scholes option-pricing model and an expected volatility of 70.0%, risk free interest rates ranging from 1.03% to 4.77%, an expected life ranging from six to eighteen months, and an expected dividend yield of zero. The weighted average fair value of shares purchased under the Employee Stock Purchase Plan was $2.74, $6.59 and $6.88 for the six months ended December 31, 2003 and the years ended June 30, 2003 and 2002, respectively.

 

The following table illustrates the effect on net income (loss) and earnings (loss) per share if the Company had applied the fair value method for the six months ended December 31, 2003 and the fiscal years ended June 30, 2003, 2002, and 2001:

 

     Six Months
Ended
December 31,
2003


    Year
Ended
June 30,
2003


   

Year
Ended

June 30,
2002


   

Year
Ended

June 30,
2001


 

Net income (loss)

   $ (165,767 )   $ 41,307     $ (26,898 )   $ 34,951  

Dividend on Series A Preferred Stock

     —         —         —         (31,672 )

Preferred stock conversion discount

     —         —         —         (131,250 )
    


 


 


 


Net income (loss) applicable to common stockholders

     (165,767 )     41,307       (26,898 )     (127,971 )

Add back:

                                

Total stock-based compensation expense recorded under intrinsic value method for all stock awards, net of tax effects

     4,624       9,001       1,101       —    

Deduct:

                                

Total stock-based compensation expense recorded under fair value method for all stock awards, net of tax effects

     (49,099 )     (94,292 )     (98,551 )     (79,016 )
    


 


 


 


Pro forma net loss

   $ (210,242 )   $ (43,984 )   $ (124,348 )   $ (206,987 )
    


 


 


 


Earnings (loss) per share:

                                

Basic and diluted—as reported

   $ (0.86 )   $ 0.22     $ (0.17 )   $ (1.19 )
    


 


 


 


Basic and diluted—pro forma

   $ (1.09 )   $ (0.24 )   $ (0.79 )   $ (1.92 )
    


 


 


 


 

Recently Adopted Accounting Pronouncements

 

In November 2002, the EITF issued a final consensus on Issue 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables” which addresses how to account for arrangements that may involve the delivery or performance of multiple products, services, and/or rights to use assets. Issue 00-21 limits the amount of revenue that can be allocated to a delivered element to the amount that is not contingent on future delivery of another element. If the amount of non-contingent revenue allocated to a delivered element is less than the costs to deliver such services, then such costs are deferred and recognized in future periods when the revenue becomes non-contingent. Issue 00-21 is effective prospectively for arrangements entered into in fiscal periods beginning after June 15, 2003. Companies may also elect to apply the provisions of Issue 00-21 to existing arrangements and record the income statement impact as the cumulative effect of a change in accounting principle. Effective July 1, 2003, the Company adopted Issue 00-21 on a prospective basis. The adoption of Issue 00-21 did not have a significant impact on the Company’s results o