UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549
FORM 10-Q
[x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 2005 OR [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ______________________ to _______________________
x
Quarterly Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934
For the quarterly period ended March 31, 2006
or
o
Transition Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934
For the transition period from to
Commission File
Number:Number 1-7234GP
Strategies Corporation ------------------------------------------------------ (ExactSTRATEGIES CORPORATION(Exact name of
registrantRegistrant as specified in its charter)Delaware 13-1926739 -------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 777 Westchester Avenue, White Plains, New York 10604 - ---------------------------------------------- ----- (Address of principal executive offices) (Zip Code) (914)-249-9700 ---------------------------------------------------- (Registrant's
Delaware
13-1926739
(State of Incorporation)
(I.R.S. Employer Identification No.)
6095 Marshalee Drive, Suite 300, Elkridge, MD
21075
(Address of principal executive offices)
(Zip Code)
(410) 379-3600
Registrant’s telephone number, including areacode)code:Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the
registrantRegistrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes[X]x No[ ]oIndicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o
Accelerated filer x
Non-accelerated filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12(b)-2 of the Exchange Act). Yes
[X]o No[ ]xIndicate the number of shares outstanding of each of
issuer'sissuer’s classes of common stock as ofJuly 29, 2005: Common Stock 16,977,248 shares Class B Capital 1,200,000 sharesMay 1, 2006:
Class
Outstanding
Common Stock, par value $.01 per share
15,498,855 shares
Class B Capital Stock, par value $.01 per share
—
GP STRATEGIES CORPORATION AND SUBSIDIARIES
TABLE OF CONTENTSPART I: FINANCIAL INFORMATION ITEM 1: CONSOLIDATED FINANCIAL STATEMENTSGP STRATEGIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS)
JUNE 30, 2005 DECEMBER 31, (UNAUDITED) 2004 ----------- ------------ASSETS Current assets: Cash and cash equivalents $ 6,901 $ 2,417 Cash held in escrow from arbitration settlement - 13,798 Accounts and other receivables, less allowance for doubtful accounts of $886 in 2005 and $917 in 2004 29,412 31,114 Costs and estimated earnings in excess of billings on uncompleted contracts 19,204 16,834 Prepaid expenses and other current assets 7,098 5,828 --------- --------- Total current assets 62,615 69,991 --------- --------- Property, plant and equipment 12,966 13,078 Accumulated depreciation (10,513) (10,405) --------- --------- Property, plant and equipment, net 2,453 2,673 Intangible assets: Goodwill 62,295 62,380 Patents, licenses and contract rights 1,821 1,821 Accumulated amortization of patents, licenses and contract rights (947) (797) --------- --------- Intangible assets, net 63,169 63,404 Deferred tax assets 15,565 16,651 Other assets 2,699 3,316 --------- --------- Total assets $ 146,501 $ 156,035 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Current maturities of long-term debt $ 89 $ 100 Short-term borrowings 675 6,068 Accounts payable and accrued expenses 24,709 33,219 Billings in excess of costs and estimated earnings on uncompleted contracts 9,807 10,003 --------- --------- Total current liabilities 35,280 49,390 Long-term debt less current maturities 11,784 10,951 Other non-current liabilities 3,042 1,739 --------- --------- Total liabilities 50,106 62,080 --------- --------- Minority interest 1,715 2,335 Stockholders' equity: Common stock, par value $0.01 per share 170 167 Class B capital stock, par value $0.01 per share 12 12 Additional paid-in capital 174,633 171,852 Accumulated deficit (77,235) (78,923) Unearned compensation (1,317) - Accumulated other comprehensive loss (856) (761) Note receivable from stockholder (619) (619) Treasury stock, at cost (108) (108) --------- --------- Total stockholders' equity 94,680 91,620 --------- --------- Total liabilities and stockholders' equity $ 146,501 $ 156,035 ========= =========Condensed Consolidated Balance Sheets
(Dollars in thousands, except per share data)
March 31,
2006
(Unaudited)
December 31,
2005
Assets
Current assets:
Cash and cash equivalents
$
1,074
$
18,118
Accounts and other receivables, less allowance for doubtful accounts of $918 in 2006 and $1,166 in 2005
23,862
27,079
Costs and estimated earnings in excess of billings on uncompleted contracts
13,024
11,487
Prepaid expenses and other current assets
5,273
5,936
Total current assets
43,233
62,620
Property, plant and equipment
6,593
6,619
Accumulated depreciation
(4,760
)
(4,762
)
Property, plant and equipment, net
1,833
1,857
Goodwill
58,552
57,483
Other intangible assets, net
609
647
Deferred tax assets
10,181
10,391
Other assets
2,085
1,643
$
116,493
$
134,641
Liabilities and Stockholders’ Equity
Current liabilities:
Current maturities of long-term debt
$
79
$
71
Short-term borrowings
1,732
—
Accounts payable and accrued expenses
20,337
20,315
Billings in excess of costs and estimated earnings on uncompleted contracts
6,077
7,430
Total current liabilities
28,225
27,816
Long-term debt less current maturities
11,444
11,309
Other noncurrent liabilities
1,179
1,174
Total liabilities
40,848
40,299
Stockholders’ equity:
Common stock, par value $0.01 per share
178
171
Class B capital stock, par value $0.01 per share
—
12
Additional paid-in capital
161,901
168,737
Accumulated deficit
(70,341
)
(71,710
)
Unearned compensation
—
(1,133
)
Accumulated other comprehensive loss
(1,120
)
(1,087
)
Note receivable from stockholder
(124
)
(619
)
Treasury stock at cost
(14,849
)
(29
)
Total stockholders’ equity
75,645
94,342
$
116,493
$
134,641
See accompanying notes to
thecondensed consolidated financial statements.1
GP STRATEGIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, -------------------------- ------------------------ 2005 2004 2005 2004 --------- --------- --------- ---------Revenue $ 50,376 $ 47,074 $ 100,229 $ 89,794 Cost of revenue 42,388 40,774 85,662 77,792 --------- --------- --------- --------- Gross profit 7,988 6,300 14,567 12,002 Selling, general and administrative expenses (5,301) (5,116) (10,752) (10,007) --------- --------- --------- --------- Operating income 2,687 1,184 3,815 1,995 Interest expense (433) (506) (813) (1,139) Other income (expense) (91) 95 103 233 --------- --------- --------- --------- Income from continuing operations before income tax expense and minority interest 2,163 773 3,105 1,089 Income tax expense (1,186) (376) (2,037) (649) --------- --------- --------- --------- Income from continuing operations before minority interest 977 397 1,068 440 Minority interest 243 (116) 620 (143) --------- --------- --------- --------- Income from continuing operations 1,220 281 1,688 297 Income from discontinued operations, net of income taxes - 113 - 228 --------- --------- --------- --------- Net income $ 1,220 $ 394 $ 1,688 $ 525 ========= ========= ========= ========= Per common share data: Basic Income from continuing operations $ 0.07 $ 0.02 $ 0.09 $ 0.02 Income from discontinued operations - - - 0.01 --------- --------- --------- --------- Net income $ 0.07 $ 0.02 $ 0.09 $ 0.03 ========= ========= ========= ========= Diluted Income from continuing operations $ 0.07 $ 0.02 $ 0.09 $ 0.02 Income from discontinued operations - - - 0.01 --------- --------- --------- --------- Net income $ 0.07 $ 0.02 $ 0.09 $ 0.03 ========= ========= ========= =========Condensed Consolidated Statements of Operations
(Unaudited)
(Dollars in thousands, except per share data)
Three Months Ended
March 31,
2006
2005
Revenue
$
43,528
$
43,560
Cost of revenue
37,766
38,016
Gross profit
5,762
5,544
Selling, general and administrative expenses
3,372
3,538
Operating income
2,390
2,006
Interest expense
414
363
Other income (including interest income of $131 in 2006 and $44 in 2005)
404
42
Income from continuing operations before income tax expense
2,380
1,685
Income tax expense
1,011
843
Income from continuing operations
1,369
842
Loss from discontinued operations, net of income taxes
—
(374
)
Net income
$
1,369
$
468
Per common share data:
Basic
Income from continuing operations
$
0.08
$
0.05
Loss from discontinued operations
—
(0.02
)
Net income
$
0.08
$
0.03
Diluted
Income from continuing operations
$
0.08
$
0.04
Loss from discontinued operations
—
(0.02
)
Net income
$
0.08
$
0.02
See accompanying notes to
thecondensed consolidated financial statements.2
GP STRATEGIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS SIX MONTHS ENDED JUNE 30, 2005 AND 2004 (UNAUDITED) (DOLLARS IN THOUSANDS)
2005 2004 -------- --------Cash flows from operating activities: Income from continuing operations $ 1,688 $ 297 Income from discontinued operations, net of income taxes - 228 -------- -------- Net income 1,688 525 Adjustments to reconcile net income to net cash provided (used) by operating activities: Depreciation and amortization 1,499 1,872 Collection of deposit in escrow 13,798 - Issuance of stock for retirement savings plan and non-cash compensation expense 517 107 Gain on sales of marketable securities - (381) Changes in other operating items (9,348) (6,205) -------- -------- Net cash provided (used) by operations 8,154 (4,082) -------- -------- Cash flows from investing activities: Additions to property, plant and equipment (431) (930) Proceeds from sales of marketable securities - 1,012 Other investing activities 14 - -------- -------- Net cash provided (used) by investing activities (417) 82 -------- -------- Cash flows from financing activities: Proceeds from (repayment of) short-term borrowings, net (5,393) 3,677 Issuance of subordinated convertible note, net of $500 restricted cash placed in escrow account 1,500 - Repayment of long-term debt - (564) Proceeds from exercised stock options 931 325 Deferred financing costs (182) - Payments of obligations under capital leases (47) (250) -------- -------- Net cash provided (used) by financing activities (3,191) 3,188 -------- -------- Effect of exchange rate changes on cash and cash equivalents (62) (7) -------- -------- Net increase (decrease) in cash and cash equivalents 4,484 (819) Cash and cash equivalents at the beginning of the period 2,417 4,416 -------- -------- Cash and cash equivalents at the end of the period $ 6,901 $ 3,597 ======== ========Condensed Consolidated Statement of Stockholders’ Equity
(Unaudited)Three months ended March 31, 2006
(Dollars in thousands, except for par value per share)
Common
stock
($0.01 par)
Class B
capital
stock
($0.01 par)
Additional
paid-in capital
Accumulated
deficit
Unearned
compensation
Accumulated
other
comprehensive
loss
Note
receivable
from
stockholder
Treasury
stock at cost
Total
stockholders’
equity
Balance at December 31, 2005
$
171
$
12
$
168,737
$
(71,710
)
$
(1,133
)
(1,087
)
$
(619
)
$
(29
)
$
94,342
Net income
—
—
—
1,369
—
—
—
—
1,369
Repurchase and exchange of common stock and Class B stock in capital stock restructuring
6
(12
)
(6,062
)
—
—
—
—
(14,758
)
(20,826
)
Repayment of note receivable from stockholder
—
—
—
—
—
—
495
—
495
Repurchases of common stock in the open market
—
—
—
—
—
—
—
(71
)
(71
)
Elimination of unearned compensation upon adoption of SFAS No. 123R
—
—
(1,133
)
—
1,133
—
—
—
—
Stock-based compensation expense
—
—
147
—
—
—
—
9
156
Other comprehensive loss
—
—
—
—
—
(33
)
—
—
(33
)
Net issuances of common stock
1
—
212
—
—
—
—
—
213
Balance at March 31, 2006
$
178
$
—
$
161,901
$
(70,341
)
$
—
(1,120
)
$
(124
)
$
(14,849
)
$
75,645
See accompanying notes to
thecondensed consolidated financial statements.3
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
Three months ended March 31, 2006 and 2005
(Unaudited)
(Dollars in thousands)
2006
2005
Cash flows from operating activities:
Income from continuing operations
$
1,369
$
842
Loss from discontinued operations, net of income taxes
—
(374
)
Net income
1,369
468
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization
600
732
Collection of deposit in escrow, including interest
—
13,798
Issuance of stock for retirement savings plan and non-cash compensation expense (recovery)
438
60
Other non-cash charges, including deferred income taxes
794
368
Changes in other operating items, net of effect of acquisition
(794
)
(7,228
)
Net cash provided by operating activities
2,407
8,198
Cash flows from investing activities:
Additions to property, plant and equipment
(165
)
(404
)
Acquisition, net of cash acquired
(619
)
—
Net cash used in investing activities
(784
)
(404
)
Cash flows from financing activities:
Proceeds from (repayment of) short-term borrowings
1,732
(5,368
)
Repurchase and exchange of common stock and Class B stock in capital stock restructuring
(20,826
)
—
Repayment of note receivable from stockholder
495
—
Repurchases of common stock in the open market
(71
)
—
Proceeds from issuance of common stock
14
391
Payments on obligations under capital leases
(28
)
(23
)
Net cash used in financing activities
(18,684
)
(5,000
)
Effect of exchange rate changes on cash and cash equivalents
17
278
Net increase (decrease) in cash and cash equivalents
(17,044
)
3,072
Cash and cash equivalents at beginning of year
18,118
2,417
Cash and cash equivalents at end of year
$
1,074
$
5,489
See accompanying notes to condensed consolidated financial statements.
4
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
Threeand sixmonths endedJune 30,March 31, 2006 and 2005and 2004
(Unaudited)(1)
BASIS OF PRESENTATIONBasis of PresentationGP Strategies Corporation
("the Company"(the “Company”) was incorporated in Delaware in 1959.Through March 31, 2005, the Company operated under twoThe Company’s businesssegments which consistedconsists of its training, engineering, andworkforce developmentconsulting business operated by General Physics Corporation("(“GeneralPhysics"Physics” or"GP") and its simulation business operated by GSE Systems Inc. ("GSE"“GP”). General Physics is a workforce development company thatimprovesseeks to improve the effectiveness of organizations by providing training, management consulting, e-Learning solutions and engineering services that are customized to meet the specific needs of clients.On September 30, 2005, the Company completed a taxable spin-off of its 57% interest in GSE
develops and delivers business and technologySystems, Inc. (“GSE”) through a dividend to the Company’s stockholders. GSE is a stand alone public company which provides simulation solutionsby applying simulation software, systemsand services to energy, process and manufacturing industries worldwide. OnApril 26, 2005, the Board of Directors elected Scott N. Greenberg, who was then President and Chief Financial Officer of the Company, to the additional position of Chief Executive Officer ("CEO") of the Company, succeeding Jerome I. Feldman. As a result of Mr. Greenberg's appointment as CEO, the Company re-evaluated its reportable business segments under Statement of Financial Accounting Standards ("SFAS") No. 131, Disclosures about Segments of an Enterprise and Related Information. Based on the information which Mr. Greenberg reviews in order to assess the performance of the Company and make decisions regarding the allocation of resources, the Company determined that it has three reportable business segments effective with Mr. Greenberg's appointment as CEO. General Physics now consists of two reportable business segments: 1) Process, Energy & Government; and 2) Manufacturing & Business Process Outsourcing. GSE continues to be one reportable business segment. Information regarding these business segments is discussed in more detail in Note 7, Business Segments. On November 24, 2004, the Company completed the spin-off of National Patent Development Corporation ("NPDC"). Subsequent to the spin-off, the results of operations of NPDC are presented as discontinued in our condensed consolidated financial statements for the three and six months ended June 30, 2004. During the six months ended JuneSeptember 30, 2005,GSE incurred a significant operating loss. GSE's revenue and profitability were primarily impacted by a lower volume of orders logged in 2004 coupled with the delay of two large international simulator orders which GSE now anticipates receiving in the third quarter of 2005 (see Note 5). On June 20, 2005, the Board of Directors approved the Company's plan to spin-off its 57% interest in GSE through a special dividend to the Company's stockholders. Stockholders will receivestockholders received in the spin-offa pro-rata share0.283075 shares of GSE common stockbased on the number of sharesfor each share of theCompany's common stockCompany’s Common Stock or Class BstockCapital Stock (“Class B Stock”) held on the record datewhich will be determined on a future date. On July 8, 2005, GSE filed a registration statement with the Securities and Exchange Commission relating to the sharesofGSE to be distributed in the spin-off. The Company anticipates that the record date will be set andSeptember 19, 2005. Following the spin-off,will occur shortly after such registration statement is declared effective. The condensed consolidated financial statements includethe Company ceased to have any ownership interest in GSE and the operations of GSE have been reclassified as discontinued in the Company’s condensed consolidated statement of operations for the prior period presented. The Companyand its majority-owned subsidiaries. The minority interest balance is comprised of the minority share incontinues to provide corporate support services to GSEof 43% as of June 30, 2005 and 42% as ofpursuant to a management services agreement which extends through December 31,2004, which the Company did not own. All significant intercompany balances and transactions have been eliminated. 4GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited)2006 (see Note 10).The accompanying condensed consolidated balance sheet as of
June 30, 2005,March 31, 2006 and the condensed consolidated statements of operationsfor the threeandsix months ended June 30, 2005, and the condensed consolidated statement ofcash flows for thesixthree months endedJune 30,March 31, 2006 and 2005 have not been audited, but have been prepared in conformity with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31,20042005, as presented in our Annual Report on Form10-K/A10-K datedMayMarch 16,2005.2006. In the opinion of management, this interim information includes all material adjustments, which are of a normal and recurring nature, necessary for a fair presentation. The results for the20052006 interimperiodsperiod are not necessarily indicative of results to be expected for the entire year. Certain amountsfor 2004in 2005 have been reclassified to conform with the presentation for2005.2006.The condensed consolidated financial statements include the operations of the Company and its subsidiaries. All significant intercompany balances and transactions have been eliminated.
(2)
INCOME PER SHAREEarnings Per ShareBasic
income per share is based upon the weighted average number of common shares outstanding, including Class B stock, during the periods. Class B stockholders have the same rights to share in profits and losses and liquidation values as common stockholders. Diluted incomeearnings per share is based upon the weighted average number of common shares outstanding during theperiodperiods. Diluted earnings per share is based upon the weighted average number of common shares outstanding during the periods assuming the issuance of common stock for all potential dilutive common stock equivalents outstanding.IncomeEarnings per share for the three
and sixmonths endedJune 30,March 31, 2006 and 2005and 2004is as follows (in thousands, except per share data):5GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited)
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ------------------- ---------------------- 2005 2004 2005 2004 ------- ------- ------- ----------INCOME USED IN COMPUTATION: Income from continuing operations $ 1,220 $ 281 $ 1,688 $ 297 Income from discontinued operations - 113 - 228 ------- ------- ------- ---------- Net income $ 1,220 $ 394 $ 1,688 $ 525 ======= ======= ======= ========== SHARES USED IN COMPUTATION: Basic weighted average shares outstanding 18,141 17,634 18,029 17,600 Dilutive impact of stock options, warrants and non-vested restricted stock units 620 519 850 548 ------- ------- ------- ---------- Diluted weighted average shares outstanding 18,761 18,153 18,879 18,148 ======= ======= ======= ========== INCOME PER COMMON SHARE: Basic Income from continuing operations $ 0.07 $ 0.02 $ 0.09 $ 0.02 Income from discontinued operations - - - 0.01 ------- ------- ------- ---------- Net income $ 0.07 $ 0.02 $ 0.09 $ 0.03 ======= ======= ======= ========== Diluted Income from continuing operations $ 0.07 $ 0.02 $ 0.09 $ 0.02 Income from discontinued operations - - - 0.01 ------- ------- ------- ---------- Net income $ 0.07 $ 0.02 $ 0.09 $ 0.03 ======= ======= ======= ==========The Company issued 76,000 shares of fully vested stock awards during the first quarter of 2005 which are included in the basic weighted average shares outstanding.
Three months ended
March 31,
2006
2005
Income used in computation:
Income from continuing operations
$
1,369
$
842
Loss from discontinued operations
—
(374
)
Net income
$
1,369
$
468
Shares used in computation:
Basic weighted average shares outstanding
16,232
17,917
Dilutive impact of stock options, warrants and non-vested stock units
901
1,081
Diluted weighted average shares outstanding
17,133
18,998
Earnings per common share:
Basic
Income from continuing operations
$
0.08
$
0.05
Loss from discontinued operations
—
(0.02
)
Net income
$
0.08
$
0.03
Diluted
Income from continuing operations
$
0.08
$
0.04
Loss from discontinued operations
—
(0.02
)
Net income
$
0.08
$
0.02
For the three
and sixmonths endedJune 30,March 31, 2006 and 2005, the dilutive effect of stock options, non-vested stock units (2006 only), warrants, and convertible notes,totalingwhich totaled 585,000 and 574,000,shares for both periods wererespectively, are notdilutive and were excluded from the computation of diluted income per share. For the three and six months ended June 30, 2004, stock options, warrants, and convertible notes totaling 2,063,000 for both periods were not dilutive and were excluded from the computation of diluted income per share. The difference between the basic and diluted number of weighted average shares outstanding for the three and six months ended June 30, 2005 and 2004 represents dilutive stock options and warrants, computed under the treasury stock method using the average market price during the period.included since they are anti-dilutive.The difference between the basic and diluted number of weighted average shares outstanding for the three months ended
June 30,March 31, 2006 and 2005also includesrepresents dilutive stock options, non-vestedrestrictedstockawards granted during the second quarterunits (2006 only) and warrants to purchase shares of2005,common stock computed under the treasury stock method, using the average marketprice. 6GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidatedprice during the period.Accounting Standard Adopted
In December 2004, the Financial
Statements ThreeAccounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 123R, Share-Based Payment (SFAS No. 123R), which revises SFAS No. 123, Accounting for Stock-Based Compensation (SFAS No. 123), andsix months ended June 30, 2005 and 2004 (Unaudited) (3) STOCK BASED COMPENSATION The Company applies the intrinsic-value-based method of accounting prescribed bysupersedes Accounting Principles Board("APB")Opinion No. 25, Accounting for Stock Issued toEmployees,Employees (APB No. 25), andrelated interpretations including Financial Accounting Standards Board ("FASB") Interpretationrequires companies to recognize compensation expense for all equity-based compensation awards issued to employees that are expected to vest. The Company adopted SFAS No.44, Accounting for Certain Transactions Involving Stock Compensation, an interpretation123R on January 1, 2006, using the Modified Prospective Application method without restatement ofAPB Opinion No. 25, to account for its fixed-plan stock options.prior periods. Under this method, the Company began to amortize compensation cost for the remaining portion of its outstanding awards for which the requisite service was not yet rendered as of January 1, 2006. Compensation cost is based on the fair value of those awards as previously disclosed on a pro forma basis under SFAS No. 123. The Company will determine the fair value of and account for awards that are granted, modified, or settled after January 1, 2006 in accordance with SFAS No. 123R.The following table presents the impact of SFAS No. 123R on income from continuing operations before income tax expense, net income, cash flows from operating and financing activities, and basic and diluted earnings per share:
Three Months Ended March 31, 2006
As Reported
Including
SFAS No. 123R
Adoption
Pro-Forma
Excluding
SFAS No. 123R
Adoption
Impact
(In thousands, except per share data)
Income from continuing operations before income tax expense
$
2,380
$
2,455
$
(75
)
Net income
1,369
1,414
(45
)
Net cash provided by operating activities
2,407
2,407
—
Net cash used in financing activities
18,684
18,684
—
Earnings per share - basic
0.08
0.09
(0.01
)
Earnings per share - diluted
0.08
0.08
—
Stock-Based Compensation Plans
Pursuant to the Company’s Non-Qualified Stock Option Plan, as amended (the “Non-Qualified Plan”), and 2003 Incentive Stock Plan (the “2003 Plan”), the Company may grant awards of non-qualified stock options, incentive stock options, restricted stock, stock units, performance shares, performance units and other incentives payable in cash or in shares of the Company’s Common Stock to officers, employees or members of the Board of Directors. The Company is authorized to grant an aggregate of 4,237,515 shares under the Non-Qualified Plan and an aggregate of 2,000,000 shares under the 2003 Plan. The Company
may issue new shares or use shares held in treasury to deliver shares to employees for its equity grants or upon exercise of non-qualified stock options.
Under SFAS No. 123R, the Company recognizes compensation expense
is recordedon a straight-line basis over the requisite service period for stock-based compensation awards with both graded and cliff vesting terms. The Company applies a forfeiture estimate to compensation expense recognized for awards that are expected to vest during the requisite service period, and revises that estimate if subsequent information indicates that the actual forfeitures will differ from the estimate. The Company recognizes the cumulative effect of a change in the number of awards expected to vest in compensation expense in the period of change. The Company does not capitalize any portion of its stock-based compensation.During the three months ended March 31, 2006, the Company recognized $150,000 of pre-tax stock-based compensation expense under the fair value method in accordance with SFAS No. 123R. This was comprised of $75,000 for stock options and $75,000 for non-vested stock units. The Company recognized a deferred income tax benefit of $60,000 associated with the compensation expense recognized for these awards. As of March 31, 2006, the Company had non-qualified stock options, restricted stock, and non-vested stock units outstanding under these plans as discussed below.
Non-Qualified Stock Options
Non-qualified stock options are granted with an exercise price not less than the fair market value of the Company’s Common Stock at the date of grant,
only ifvest over a period up to ten years, and expire at various terms up to ten years from thecurrent market pricedate of grant.Summarized information for the
underlyingCompany’s non-qualified stockexceedsoptions is as follows:
Stock Options
Number of
options
Weighted
average
exercise price
Weighted
average
remaining
years
Aggregate
intrinsic
value
Outstanding at December 31, 2005
1,411,345
$
4.83
Granted
—
Exercised
(1,799
)
4.46
Cancelled/expired
(13,241
)
5.42
Outstanding at March 31, 2006
1,396,305
4.82
1.78
$
3,322,000
Exercisable at March 31, 2006
1,308,995
4.80
1.80
$
3,138,000
The total intrinsic value realized by participants on stock options exercised during the three months ended March 31, 2006 and 2005 was $5,000 and $261,000, respectively. The Company did not realize a tax benefit related to these stock option exercises due to the existence of net operating loss carryforwards in these periods. In addition, the Company received cash of $8,000 and $292,000 for the exercise price associated with stock options exercised during the three months ended March 31, 2006 and 2005, respectively. The total fair value of stock options that vested during the three months ended March 31, 2006 and 2005 was $38,000 and $88,000, respectively. As of March 31, 2006, the Company had $115,000
of unrecognized compensation related to the unvested portion of outstanding stock options expected to be recognized through July 2007 (a weighted average remaining vesting period of less than one year).
Restricted Stock and Stock Unit Awards
The Company granted 268,000 restricted stock and non-vested stock units to certain Company officers and employees during 2005 with a weighted-average grant date fair value of $7.40 per share. Of the total stock awards granted, 76,000 represented shares of restricted stock which were fully vested upon grant because they were attributed to 2004 service, but have a restriction on sale until December 31, 2007. The remainder of the
options. SFAS No. 123, Accounting for Stock-Based Compensation, as amended, established accountingawards granted during 2005 represented 192,000 non-vested stock units which vest to the recipients at various dates, up to five years, based on fulfilling service requirements. Upon vesting, the stock units are settled in shares of the Company’s Common Stock. As of both December 31, 2005 anddisclosure requirements using a fair-value-based method of accounting for stock-based employee compensation plans. As allowed by SFAS No. 123,March 31, 2006, the Companyhas electedhad 182,000 non-vested stock units outstanding with a weighted average grant date fair value of $7.54. No shares of restricted stock or stock units were granted or vested during the first quarter of 2006. As of March 31, 2006, the Company had unrecognized compensation cost of $1,058,000 related tocontinuethe unvested portion of its outstanding stock units expected toapply the intrinsic-value-based methodbe recognized over a weighted average remaining service period ofaccounting described above, and has adopted only the disclosure requirements of SFAS No. 123.approximately four years.The following table
illustratespresents the pro-forma effect on net incomeif the fair-value-based method had been applied toand earnings per share for all outstandingand unvestedstock-based compensation awards for the threeand sixmonths endedJune 30,March 31, 2005and 2004 (inin which the fair value provisions of SFAS No. 123R were not in effect (dollars in thousands, except per share data):
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ------------------------ ------------------------ 2005 2004 2005 2004 --------- --------- --------- ---------Net income - as reported $ 1,220 $ 394 $ 1,688 $ 525 Compensation expense, net of tax: Company stock options (61) (54) (135) (138) GSE stock options - (9) (672) (18) --------- --------- --------- --------- Pro forma net income $ 1,159 $ 331 $ 881 $ 369 ========= ========= ========= ========= Net income per share: Basic - as reported $ 0.07 $ 0.02 $ 0.09 $ 0.03 Basic - pro forma $ 0.06 $ 0.02 $ 0.05 $ 0.02 Diluted - as reported $ 0.07 $ 0.02 $ 0.09 $ 0.03 Diluted - pro forma $ 0.06 $ 0.02 $ 0.05 $ 0.027GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited)
Three months
ended
March 31, 2005
Net income — as reported
$
468
Add: stock-based compensation expense determined under intrinsic value method and included in reported net income, net of tax
—
Deduct: stock-based compensation expense determined under the fair-value-based method for all awards, net of tax
(74
)
Pro forma net income
$
394
Net income per share:
Basic—as reported
$
0.03
Basic—pro forma
$
0.02
Diluted—as reported
$
0.02
Diluted—pro forma
$
0.02
9
The
Companyper share weighted average fair value of the Company’s stock options granted1,000 optionsduring the first quarter of 2005and no options during the second quarter of 2005. The per share weighted-average fair value of the Company's stock options granted during the six months ended June 30, 2005 and 2004 werewas $3.35,and $1.46, respectively,on the date of grant using themodifiedBlack-Scholesoption-pricingoption pricing model with the followingweighted-averageweighted average assumptions:
SIX MONTHS ENDED JUNE 30, ------------------------------Three months
ended
March 31, 20052004 ---------- ----------Expected dividend yield
0% 0%—
%
Risk-free interest rate
3.56% 1.69%3.56
%
Expected volatility
53.51% 34.08%53.51
%
Expected life
4.0 years
2.0 yearsGSE granted 600,000The Company estimates the fair value of its stock options
with an average exercise priceon the date of$1.85grant using the Black-Scholes option pricing model. The Company estimates the expected life of stock options granted taking into consideration historical data related to stock option exercises. The Company also uses historical data in order to estimate the volatility factor for a period equal to the duration of the expected life of stock options granted. The Company believes that the use of historical data to estimate these factors provides a reasonable basis for these assumptions. The risk-free interest rate for the periods within the expected life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. No stock options were granted during thefirst quarterthree months ended March 31, 2006.General Physics has a $25 million Financing and Security Agreement (the ”Credit Agreement”), as amended, with a bank that expires on August 12, 2007 with annual renewal options. The Credit Agreement is secured by certain assets of
2005, all ofGeneral Physics and provides for an unsecured guaranty from the Company. The Company continued to guarantee GSE’s borrowings under the Credit Agreement (for whichimmediately vested. Outstanding GSE options relate$1,500,000 was allocated for use by GSE) subsequent togrants to employees and directors of GSE. GSE did not grant any stock options duringthesecond quarter ofspin-off on September 30, 2005. In March 2006, GSE repaid its borrowings in full and ceased to be a borrower under the Credit Agreement.The interest rate on the Credit Agreement is at the daily LIBOR market index rate plus 3.0%. Based upon the financial performance of General Physics, the interest rate can be reduced. As of March 31, 2006, the rate was reduced to LIBOR plus 2.50% for General Physics, which resulted in a rate of approximately 7.3%. The Credit Agreement contains covenants with respect to General Physics’ minimum tangible net worth, leverage ratio, interest coverage ratio and its ability to make capital expenditures. General Physics was in compliance with all loan covenants under the Credit Agreement as of March 31, 2006. The Credit Agreement also contains certain restrictive covenants regarding future acquisitions, incurrence of debt and the payment of dividends. General Physics is currently restricted from paying dividends or management fees to the Company in excess of $1,000,000 in any year, with the exception of a waiver by the lender which permits General Physics to provide cash to the Company to repurchase up to $5 million of additional shares of its outstanding Common Stock (see Note 7).
As of March 31, 2006, General Physics had $1,732,000 of outstanding borrowings under the Credit Agreement and there was approximately $18,241,000 of available borrowings based upon 80% of eligible accounts receivable and 80% of eligible unbilled receivables. As of December
2004,31, 2005, General Physics had no amounts outstanding under theFASB issued SFAS No. 123R, Share-Based Payment, which changed the accounting for stock-based compensation to require companies to expense stock options and other equity awards based on their grant-date fair values. SFAS No. 123R is discussed in more detail in Note 11, Accounting Standard Issued. (4) LONG-TERM DEBTCredit Agreement.Long-term debt consists of the following (in thousands):
JUNE 30, DECEMBER 31, 2005 2004 -------- ------------6% conditional subordinated notes due 2008 (a) $ 7,500 $ 7,500 ManTech Note (b) 5,251 5,251 8% senior subordinated secured convertible note due 2009, net of warrant and conversion option discount of $1,324 (c) 676 - Other 132 190 -------- -------- 13,559 12,941 Less warrant related discount, net of accretion (1,686) (1,890) -------- -------- 11,873 11,051 Less current maturities (89) (100) -------- -------- $ 11,784 $ 10,951 ======== ========
March 31,
2006
December 31,
2005
6% conditional subordinated notes due 2008 (a)
$
7,500
$
7,500
ManTech Note (b)
5,251
5,251
Capital lease obligations
117
93
12,868
12,844
Less warrant related discount, net of accretion
(1,345
)
(1,464
)
11,523
11,380
Less current maturities
(79
)
(71
)
$
11,444
$
11,309
(a)
Pursuant to a Note and Warrant Purchase Agreement datedIn August8,2003, the Company issued and sold to four Gabelli Funds $7,500,000 aggregate principal amount of 6% Conditional Subordinated8GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited)Notes due 2008 (the"Gabelli Notes")Gabelli Notes) and 937,500 warrants("GP Warrants")(GP Warrants), each entitling the holder thereof to purchase (subject to adjustment) one share of theCompany's common stock.Company’s Common Stock at an exercise price of $8.00. The aggregate purchase price for the Gabelli Notes and GP Warrants was $7,500,000.The Gabelli Notes bear interest at 6% per annum payable semi-annually commencing on December 31, 2003 and mature in August 2008. The Gabelli Notes are secured by a mortgage on the
Company'sCompany’s former property located in Pawling, New York which was distributed toNPDC.National Patent Development Corporation (NPDC) in connection with its spin-off by the Company on November 24, 2004. In addition, at any time that less than $1,875,000 of the principal amount of the Gabelli Notesareis outstanding, the Company may defease the obligations secured by the mortgage and obtain a release of the mortgage by depositing with an agent for the Noteholders bonds or government securities with an investment grade rating by a nationally recognized rating agency which, without reinvestment, will provide cash on the maturity date of the Gabelli Notes in an amount not less than the outstanding principal amount of the Gabelli Notes.The GP Warrants have an exercise price of $6.14 per share, as amended followingSubsequent to the spin-off of NPDC and GSE and in accordance with the anti-dilution provisions of the warrant agreement for stock splits, reorganizations, mergers and similar transactions, the number of GP Warrants was adjusted to 984,116 and the exercise price was adjusted to $5.85 per share. The GP warrants are exercisable at any time until August 2008. The exercise price may be paid in cash, by delivery of the Gabelli Notes, or a combination of the two. The
GP Warrants contain anti-dilution provisions for stock splits, reorganizations, mergers and similar transactions. Thefair value of the GP Warrants atthe date of issuance was $2,389,000, which reduced long-term debt in the accompanying
condensedconsolidated balancesheets. This amountsheets and is being accreted as additional interest expense using the effective interest rate over the term of the Gabelli Notes. The Gabelli Notes have a yield to maturity of 15.436% based on the discounted value. Accretion charged as interest expense was approximately$103,000$119,000 and$89,000$102,000 for the three months endedJune 30,March 31, 2006 and 2005,respectively, and approximately $205,000 and $177,000 for the six months ended June 30, 2005 and 2004,respectively.(b) In
connection with the spin-off,October 2003, the Companycontributed the Pawling property, subject to the mortgage, to MXL Industries, Inc. (MXL). MXL assumed the mortgage, but without liability for repayment of the Gabelli Notes or any other obligations of the Company under the Note and Warrant Purchase Agreement (other than foreclosure on such property). If there is a foreclosure on the mortgage for payment of the Gabelli Notes, the Company has agreed to indemnify MXL for loss of the value of the property. (b) The Company hasissued a five-year 5% note due in fullonin October21,2008 in the principal amount of $5,250,955 to ManTech International. Interest is payable quarterly. Each year during the term of the note, the holder of the note has the option to convert up to 20% of the original principal amount of the note intocommon stockCommon Stock of the Company at the then market price of theCompany's common stock,Company’s Common Stock, but only in the event that theCompany's common stockCompany’s Common Stock is trading at $10 per share or more. In the event that less than 20% of the principal amount of the note is not converted in any year, such amount not converted will be eligible for conversion in each subsequent year until converted or until the note is repaid in cash.(c) On May 26, 2005, GSE issued and sold to Dolphin Direct Equity Partners, LP, a Senior Subordinated Secured Convertible Note in the aggregate principal amount of $2,000,000, maturing March 31, 2009 (the "Dolphin Note"), and a seven-year warrant to purchase 380,952 shares of GSE 9GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited) common stock at an exercise price of $2.22 per share (the "GSE Warrant"). The Dolphin Note is convertible into 1,038,961 shares of GSE common stock at a conversion price of $1.925 per share and accrues interest at 8% payable quarterly. Both the convertible note and the warrant are subject to anti-dilution provisions for stock splits, reorganizations, mergers and similar transactions. The aggregate purchase price for the Dolphin Note and GSE Warrant was $2,000,000. At the date of issuance, the fair value of the GSE Warrant was $374,000 and the fair value of the conversion option of the Dolphin Note was $959,000, which were recorded as other noncurrent liabilities, with the offset recorded as an original issue discount (OID). The OID is accreted over the term of the Dolphin Note and charged to interest expense and the unamortized balance reduces long-term debt in the accompanying condensed consolidated balance sheets. The noncurrent liabilities related to the GSE Warrant and the conversion option are marked to market through earnings on a quarterly basis in accordance with Emerging Issues Task Force (EITF) 00-19, Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in a Company's Own Stock. (5) SHORT-TERM BORROWINGS (a) GENERAL PHYSICS General Physics and General Physics' subsidiary, SkillRight, Inc., have a three-year $25 million Financing and Security Agreement (the "Credit Agreement") with a bank that expires on August 13, 2006 with annual renewal options. The Credit Agreement is secured by certain assets of General Physics and provides for an unsecured guaranty from the Company. The interest rate on the Credit Agreement is at the daily LIBOR market index rate plus 3.00%, which as of June 30, 2005 was approximately 6.32%. Based upon the financial performance of General Physics, the interest rate can be reduced. The Credit Agreement contains covenants with respect to General Physics' minimum tangible net worth, leverage ratio, interest coverage ratio and its ability to make capital expenditures. General Physics was in compliance with all loan covenants under the Credit Agreement as of June 30, 2005. The Credit Agreement also contains certain restrictive covenants including a prohibition on future acquisitions, incurrence of debt and the payment of dividends. General Physics is currently restricted from paying dividends or management fees to the Company in excess of $1,000,000 in any fiscal year. On March 9, 2005, General Physics received a waiver to loan GSE a maximum of $1.0 million to satisfy any GSE short-term capital requirements. In connection with GSE's sale and issuance of the Dolphin Note and GSE Warrant (see note 4), General Physics' commitment to loan GSE $1.0 million was terminated. The Company repaid in full the $6,068,000 outstanding under the Credit Agreement as of December 31, 2004 in the first quarter of 2005, using the proceeds received from the arbitration settlement as discussed in more detail in Note 8, Litigation. As of June 30, 2005, the Company had no borrowings outstanding under the Credit Agreement and there was approximately $20,712,000 of available borrowings based upon 80% of eligible accounts receivable and 80% of eligible unbilled receivables. 10GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited) (b) GSE On March 30, 2004, under the terms of the General Physics' Credit Agreement, as amended, $1,500,000 of General Physics' Credit Agreement was allocated for use by GSE. The Credit Agreement was amended to provide for additional collateral consisting of substantially all of GSE's assets, as well as certain covenants specific to GSE. It provides for borrowings by GSE up to 80% of eligible accounts receivable and 80% of eligible unbilled receivables, up to a maximum of $1,500,000. The interest rate is based upon the daily LIBOR market index rate plus 3%, with interest only payments due monthly (6.32% as of June 30, 2005). The Company agreed to guarantee GSE's borrowings under the Credit Agreement, as amended, in consideration for a fee pursuant to its management services agreement with GSE. There were no borrowings outstanding at December 31, 2004. As of June 30, 2005, GSE had borrowings of $675,000 and a letter of credit for $50,000 and approximately $775,000 available to be borrowed under the Credit Agreement. The Company has classified the borrowings outstanding under the Credit Agreement as a current obligation. The Credit Agreement requires GSE to comply with certain financial ratios. At both March 31, 2005 and June 30, 2005, GSE was not in compliance with its debt service coverage ratio. The Company obtained a letter dated August 4, 2005 in which the lender has agreed to forbear from exercising its rights under the Credit Agreement against the borrowers with respect to this event of default by GSE until delivery of the annual financial statements for the year ended December 31, 2005. The lender will charge GSE a fee of approximately $2,500 as compensation for the waiver.(6)
COMPREHENSIVE INCOMEComprehensive IncomeThe following are the components of comprehensive income
(loss)(in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, -------------------- --------------------
Three months ended
March 31,
2006
2005
Net income
$
1,369
$
468
Other comprehensive income (loss), net of income taxes
Net unrealized gain on available-for-sale securities
3
116
Foreign currency translation adjustment
(36
)
149
(33
)
265
Comprehensive income, net of tax
$
1,336
$
733
As of March 31, 2006 and December 31, 2005,
2004 2005 2004 ------- ------- -------- -------Net income $ 1,220 $ 394 $ 1,688 $ 525 Other comprehensive income before income tax expense: Net unrealized gain (loss) on available-for-sale securities (197) 88 (6) (826) Net unrealized loss on interest rate swap - 352 - 49 Foreign currency translation adjustment (240) (53) (91) (112) ------- ------- -------- ------- 783 781 1,591 (364) Income tax benefit (expense) relating to items of other comprehensive income (loss) 77 (172) 2 303 ------- ------- -------- ------- Comprehensive income (loss), net of tax $ 860 $ 609 $ 1,593 $ (61) ======= ======= ======== =======11GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited) The components ofaccumulated other comprehensive loss,are as follows (in thousands):(7) BUSINESS SEGMENTS As discussed in Note 1,the Company re-evaluated its reportable business segmentsduringunder SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information(SFAS No. 131), as a result of a change in thesecond quarterChief Operating Decision Maker (CODM) of2005 due totheappointment of Scott N. Greenberg as CEO.Company.Based on the information whichMr. Greenbergthe CODM reviews in order to assess the performance of the Company and make decisions regarding the allocation of resources, the Company determined that it hasthree reportable business segments effective with Mr. Greenberg's appointment as CEO. General Physics now consists oftwo reportable business segments: 1) Process, Energy & Government; and 2) Manufacturing & Business Process Outsourcing (BPO). The Company is organized by operating group primarily based upon the services performed and markets served by each group. The reportable business segments represent an aggregation of the Company’s operating segments in accordance with the aggregation criteria in SFAS No. 131. GSEcontinuesceased to beonea reportable businesssegment.segment effective with the spin-off on September 30, 2005 and its results are reported in discontinued operations in the condensed consolidated statements of operations through the effective date of the spin-off. As a result of the change in its reportable business segments,the Company has restated theall prior period segment informationbelow for all prior periods presentedhas been restated to conform to the currentperiod'syear’s presentation.The Process, Energy & Government segment provides engineering consulting, design and evaluation services regarding facilities, the environment, processes and systems, and staff augmentation, curriculum design and development, and training and technical services primarily to federal and state governmental agencies, large government contractors, petroleum and chemical refining companies, and electric power utilities.
The Manufacturing & BPO segment provides training, curriculum design and development, staff augmentation, e-Learning services, system hosting, integration and help desk support, business process
and training outsourcing, and consulting and technical services to large companies in the automotive, pharmaceutical, electronics, and other industries as well as to governmental clients.
GSE provides simulation solutionsFor the three months ended March 31, 2006 and
services2005, sales to thenuclearUnited States government andfossil electric utility industry, as well as process industries such asits agencies represented approximately 33% and 39%, respectively, of thechemicalCompany’s revenue. Revenue from the Department of the Army, which is included in the Process, Energy & Government segment, accounted for approximately 16% andpetrochemical industries. In addition, GSE provides plant monitoring, security access24% of the Company’s revenue for the three months ended March 31, 2006 andcontrol and signal analysis monitoring and optimization software primarily to2005, respectively. No other customer accounted for greater than 10% of thepower industry.Company’s revenue for the three months ended March 31, 2006.The Company does not allocate the following corporate items to the segments: other income and interest expense; selling, general and administrative expense; and income tax expense. Inter-segment revenue is eliminated in consolidation and is not significant.
12GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited)The following tables set forth the revenue and operating income of each of the
Company'sCompany’s operating segments and includes a reconciliation of segment revenue to consolidated revenue and operating income to consolidated income from continuing operations before incometaxes and minority interesttax expense (in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ------------------------ ------------------------ 2005 2004 2005 2004 --------- --------- --------- ---------REVENUE: Process, Energy & Government $ 20,968 $ 19,354 $ 43,101 $ 38,242 Manufacturing & BPO 22,853 20,279 44,447 36,700 GSE 6,555 7,441 12,681 14,852 --------- --------- --------- --------- $ 50,376 $ 47,074 $ 100,229 $ 89,794 ========= ========= ========= ========= OPERATING INCOME: Process, Energy & Government $ 2,680 $ 2,431 $ 5,078 $ 4,073 Manufacturing & BPO 816 (246) 1,394 (381) GSE (394) 282 (1,437) 454 Corporate and other general and administrative expenses (574) (1,241) (988) (2,276) Litigation expense for EDS (50) - (250) - Deferred compensation plan 209 (42) 18 125 --------- --------- --------- --------- 2,687 1,184 3,815 1,995 --------- --------- --------- --------- Interest expense (433) (506) (813) (1,139) Other income (expense) (91) 95 103 233 --------- --------- --------- --------- Income from continuing operations before income taxes and minority interest $ 2,163 $ 773 $ 3,105 $ 1,089 ========= ========= ========= =========(8) LITIGATION
Three months ended
March 31,
Revenue:
2006
2005
Process, Energy & Government
$
19,673
$
21,523
Manufacturing & BPO
23,855
22,037
$
43,528
$
43,560
Operating income:
Process, Energy & Government
$
1,488
$
2,376
Manufacturing & BPO
1,632
432
Corporate and other general and administrative expenses
(730
)
(802
)
2,390
2,006
Interest expense
(414
)
(363
)
Other income
404
42
Income from continuing operations before income tax expense
$
2,380
$
1,685
14
On
JanuaryFebruary 3,2001,2006, the Companycommenced an action alleging that MCI Communications Corporation ("MCI")completed the acquisition of Peters Management Consultancy Ltd. (PMC),MCI's Systemhouse subsidiaries ("Systemhouse"),a performance improvement andElectronic Data Systems Corporation, as successortraining company in the United Kingdom. The Company acquired 100% ownership of PMC for a purchase price of $1,331,000 in cash, subject toSystemhouse ("EDS"), committed fraud ina post-closing adjustment based on actual net equity, plus contingent payments of up to $923,000 based upon the achievement of certain performance targets during the first year following completion of the acquisition. In connection with theCompany's 1998acquisition and in accordance with SFAS No. 141, Business Combinations, the Company recorded $1,084,000 ofLearning Technologiesgoodwill and intangible assets, representing the excess of the purchase price over the net assets acquired and $133,000 of third party acquisition costs. PMC is included in the Company’s Manufacturing & BPO segment and its results are included in the condensed consolidated financial statements since the date of acquisition. The Company believes that the pro-forma impact of the PMC acquisition is not material to its results of operations for the three months ended March 31, 2006 and 2005.The Company’s preliminary purchase price allocation for the net assets acquired is as follows:
Cash
$
845
Accounts receivable and other current assets
784
Net property, plant and equipment
136
Goodwill and intangible assets
1,084
Total assets
2,849
Accounts payable, accrued expenses and other liabilities
724
Billings in excess of costs and estimated earnings on uncompleted contracts
661
Total liabilities assumed
1,385
Net assets acquired
$
1,464
(10) Related Party Transactions
Loans
As of March 31, 2006 and December 31, 2005, the Company had a note receivable from the
defendants for $24,300,000. The Company seeks actual damages in the amount of $117,900,000 plus interest, punitive damages in an amount to be determined at trial, and costs, subject to reduction as set forth below. The complaint, which was filed in the New York State Supreme Court, alleges that the defendants fraudulently induced the Company to acquire Learning Technologies by concealing the poor performance of Learning Technologies' United Kingdom operation. The complaint also alleges that the defendants represented that Learning Technologies would continue to receive new business from Systemhouse even though the defendants knew that the sale of Systemhouse to EDS was imminent and that such new business would cease after such sale. In February 2001, the defendants filed answers denying liability. No counterclaims against the plaintiffs have been asserted. Although discovery had not yet been 13of the GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited) completed, defendants made a motion for summary judgment, which was submitted in April 2002. The motion was denied by the court due to the MCI bankruptcy, but with leave to the other defendants to renew. The defendants other than MCI then made an application to the court to stay the fraud action until the Company and EDS completed a later-commenced arbitration, in which the Company alleged breachCompany’s Chairman of theacquisition agreementExecutive Committee and former Chief Executive Officer ofa separate agreement to refer business to General Physics on a preferred provider basisapproximately $124,000 andseeking actual damages in the amount of $17,600,000 plus interest, was concluded. In a decision dated May 9, 2003, the court granted the motion and stayed the fraud action pending the outcome$619,000, respectively. The proceedsarbitration.original note were used primarily to exercise options to purchase Class B Stock. Thearbitration hearings begannote bears interest at the prime rate and is secured by certain assets owned by him. All unpaid principal on the loans and accrued interest are due on May17, 2004 and concluded on May 24, 2004 before JAMS, a private dispute resolution firm. On September 10, 2004, the arbitrator issued an interim award in which she found that the sellers of Learning Technologies breached certain representations and warranties contained in the acquisition agreement.31, 2007. Ina final award dated November 29, 2004, the arbitrator awarded General Physics $12,273,575 in damages and $6,016,109 in pre-award interest. (The damages sought in the litigation are subject to reduction by the $12,273,575 in damages awarded in the arbitration.) On December 30, 2004, EDS made a payment of $18,428,486, which included $138,802 of post-award interest, to General Physics to satisfy its obligation under the arbitration award, which cash was held in escrowaddition, as of December 31,2004. EDS subsequently agreed that the arbitration award was final and binding and that it would take no steps of any kind to vacate or otherwise challenge the award. As a result of the foregoing, the Company recognized a gain on the arbitration award, net of legal fees and expenses, of $13,660,000 in 2004. As a result of the conclusion of the arbitration, the state court lifted the stay of the fraud claim against the defendants other than MCI. On February 14,2005,such defendants filed a new motion for summary judgment dismissing the Company's fraud claim against them. The Company opposed the motion, which was argued on April 4, 2005. On June 6, 2005, the court issued a decision on the motion for summary judgment refusing to dismiss the Company's claims against EDS and Systemhouse relating to false representations concerning the financial condition of Learning Technologies' United Kingdom operation and held thatthe Company hadpresented evidence sufficient to raise triable issuesother employee advances, unsecured loans and accrued interest receivable from him, totaling $353,000. On January 19, 2006, he repaid approximately $853,000 offact as to whether defendants provided the Company with financial projections which they knew to be false or unreasonable,$972,000 of total indebtedness (including principal andmade representations or omissions indicating that Learning Technologies' United Kingdom operation was on track to achieve revenue targets which they knew it would be unable to achieve. However, the court dismissed the Company's claim that it had been fraudulently induced to acquire Learning Technologies based on false representations that Systemhouse was not for sale. A trial date of November 1, 2005 has been set. The Company has requested a jury trial. The fraud action against MCI had been stayed as a result of the bankruptcy of MCI. In February 2004, the Bankruptcy Court lifted the stay so that the state court could rule on the merits of MCI's summary judgment motion. MCI has asked the Bankruptcy Court to reinstate the stay and to rule on its summary judgment motion. The Company has argued that it would be more efficient if the state court ruled on both summary judgment motions. The Bankruptcy Court has not yet decided whether it or the state court should determine MCI's summary judgment motion. 14GP STRATEGIES CORPORATION AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements Three and six months ended June 30, 2005 and 2004 (Unaudited) In connection with the spin-off of NPDCinterest) owed bythe Company, the Company agreed to make an additional capital contribution to NPDC in an amount equal to the first $5,000,000 of any proceeds (net of litigation expenses and taxes incurred, if any), and 50% of any proceeds (net of litigation expenses and taxes incurred, if any) in excess of $15,000,000, received with respect to the foregoing arbitration and litigation claims. Pursuant to such agreement, in January 2005, the Company made a $5,000,000 distribution to NPDC out of the proceeds of the arbitration award. The net cash proceedshim to the Companywere approximately $8,500,000 after legal feesusing the proceeds he received from the Class B exchange transaction (see Note 7). As of March 31, 2006, the aggregate amount of indebtedness (including principal and accrued interest) outstanding under thedistribution to NPDC. A portion of such net proceedsloans wasused to reduce to zero the outstanding balance of General Physics' revolving credit facility, which as of December 31, 2004 was $6.1 million. The Company is not a party to any legal proceeding, the outcome of which is believed by management to have a reasonable likelihood of having a material adverse effect upon the financial condition and operating results of the Company. (9) RELATED PARTY TRANSACTIONS$135,000.Management Services
AgreementsAgreement Between NPDC and the CompanyPrior to the spin-off, NPDC was a wholly-owned subsidiary of the Company. In connection with the spin-off, NPDC entered into a separate management agreement with the Company pursuant to which the Company provides certain general corporate services to NPDC.
Corporate Tax, Legal Support, and Executive Management Consulting Services
The Company has
four associates,three employees, including the Chief Executive Officer and Chief Legal Officer, who also provide services to NPDC under a management services agreement, for which the Company is reimbursed for such services. Services under the agreement relate tocorporate federal and state income taxes,corporate legal services, corporate secretarial administrative support, and executive management consulting. The term of the agreement extends for three years from the date of the spin-off, or through November 24, 2007, and may be terminated by either NPDC or the Company on or after July 30, 2006 with 180 days prior writtennotice. Fornotice, with thethree and six months ended June 30, 2005, the Company chargedexception of fees relating to compensation for NPDC’s Chief Executive Officer for which NPDC$362,000 and $656,000, respectively, for services under this management agreement, based on an agreed upon allocation of actual costs incurred by the Company on behalf of NPDC. Pursuantis liable through May 31, 2007 pursuant toan amendment to the management agreement effective July 1, 2005,his employment agreement. NPDCwill paypays the Company an annual fee ofnot less than $970,000$913,500 as compensation for these services, payable in equal monthly installments. For the three months ended March 31, 2006, the Company charged NPDC approximately $228,000 for services under the management agreement, which is included as a reduction of selling, general and administrative expense.Corporate Office Lease
NPDC continues to occupy a portion of corporate office space leased by the Company. Pursuant to the management services agreement, NPDC compensates the Company
approximately $205,000 annuallyfor use of this space. TheCompany'sCompany’s lease extends through December 31, 2006.In connectionManagement Services Agreement Between GSE and the Company
Pursuant to a management services agreement, the Company provides corporate support services to GSE. GSE pays the Company an annual fee of $685,000 for these services and can terminate the agreement by providing sixty days written notice. The management services agreement can be renewed by GSE for successive one-year terms and was renewed through December 31, 2006. Subsequent to the spin-off of GSE effective September 30, 2005, the Company continues to provide GSE with corporate support services through December 31, 2006. For the three months ended March 31, 2006 and 2005, the Company recorded revenues for services provided to GSE of $150,000 and $167,000, respectively. The revenues and expenses related to these services, which were intercompany transactions prior to the spin-off of GSE have been eliminated in the condensed consolidated statement of operations for the three months ended March 31, 2005.
Subsequent to the spin-off of NPDC, the Company continues to guarantee certain obligations of NPDC’s subsidiaries, Five Star Products, Inc. (“Five Star”) and MXL Industries, Inc. (“MXL”). The Company guarantees certain operating leases for Five Star’s New Jersey and Connecticut warehouses, totaling approximately $1,589,000 per year through the first quarter of 2007. The Company also
entered intoguarantees the repayment of two debt obligations of MXL, which are secured by property and certain equipment of MXL. The aggregate outstanding balance of these debt obligations as of March 31, 2006 was $1,305,000. The Company’s guarantees expire upon the maturity of the debt obligations which are October 1, 2006 and March 31, 2011.In November 2005, the Company settled its remaining fraud claims against Electronic Data Systems Corporation (EDS) and Systemhouse in connection with the Company’s 1998 acquisition of Learning Technologies. Pursuant to the settlement, EDS made a
separate managementcash payment to the Company in the amount of $9,000,000 in December 2005. The Company recognized a gain on the litigation settlement, net of legal fees and expenses, of approximately $5,552,000 in the fourth quarter of 2005. In accordance with a spin-off agreement with NPDC,pursuant to which it was anticipated thatthe Companywould receive certain general corporate servicesmade an additional capital contribution to NPDC for approximately $1,201,000 of the settlement proceeds, which was accounted for as a component of the net assets distributed to NPDC in connection with the spin-off, through a reduction of additional paid-in capital in 2005. The Company did not transfer cash to NPDC for this additional capital contribution, but instead is offsetting the management fee charges receivable fromNPDC. No such services have been required or provided, soNPDC against the payable to NPDC (see Note 10). As of March 31, 2006, the Company15GP STRATEGIES CORPORATION AND SUBSIDIARIES Noteshas a remaining payable toCondensed Consolidated Financial Statements ThreeNPDC of $986,000 for this additional capital contribution, which is included in accounts payable andsix months ended June 30, 2005 and 2004 (Unaudited) and NPDC entered into a termination agreement effective as of July 1, 2005 terminating the management agreement. (10) COMMITMENTS Effective April 11, 2005, General Physics entered into employment agreements with certain of its officers, resulting in committed compensation of approximately $2.0 million annually. These agreements have employment terms expiring in 2007, provide for grants of restricted stock units pursuant to the Company's 2003 Incentive Stock Plan, contain non-compete covenants and change of control and termination provisions. (11) ACCOUNTING STANDARD ISSUED In December 2004, the FASB issued SFAS No. 123 - Revised, Share-Based Payment (SFAS No. 123R), which revises SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes APB No. 25, Accounting for Stock Issued to Employees. Currently, the Company does not record compensation expense for certain stock-based compensation. Under SFAS No. 123R, the Company will measure the cost of employee services received in exchange for stock, basedaccrued expenses on thegrant-date fair value (with limited exceptions)condensed consolidated balance sheet.The Company’s original fraud action included MCI Communications Corporation (MCI) as a defendant. The fraud action against MCI had been stayed as a result of MCI’s bankruptcy filing and the
stock award. Such cost will be recognized overCompany’s claims against MCI were not tried or settled with theperiod during whichclaims against EDS and Systemhouse. On December 13, 2005, theemployee is required to provide service in exchangeBankruptcy Court heard argument on a summary judgment motion that MCI had made before filing forthe stock award (usually the vesting period).bankruptcy. Thefair value of the stock award will be estimated using an option-pricing model, with excess tax benefits, as defined in SFAS No. 123R, being recognized as an addition to paid in capital. SFAS No. 123R was to be effective as of July 1, 2005. However, based on Final Rule 74 issued by the Securities and Exchange Commission in April 2005, which delayed the implementation of SFAS No. 123R, the Company plans to adopt SFAS No. 123R effective January 1, 2006. The Company expects to adopt SFAS No. 123R using the Modified Prospective Application method without restatement of prior periods. Under this method, the Company will begin to amortize compensation cost for the remaining portion of its outstanding awards on the adoption date for which the requisite servicemotion has not yet beenrendered. Compensation cost for these awards will be based on the fair value of the awards as disclosed on a pro-forma basis under SFAS 123 in Note 3, Stock Based Compensation. The Company will account for awards that are granted, modified, or settled after the adoption date in accordance with SFAS No. 123R.decided.The Company is
currently innot a party to any legal proceeding, theprocessoutcome ofevaluatingwhich is believed by management to have a reasonable likelihood of having a material adverse effect upon theimpactfinancial condition and operating results ofSFAS No. 123R on its consolidated financial statements. 16ITEMthe Company.17
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONSManagement’s Discussion and Analysis of Financial Condition and Results of OperationsResults of Operations
General Overview
Through March 31, 2005, the Company operated under twoThe Company’s business
segments which consistedconsists of itstraining and workforce development business operated bycore operating subsidiary, General Physics,Corporation ("General Physics" or "GP") and its simulation business operated by GSE Systems Inc. ("GSE"). General Physics isa globalworkforce developmenttraining, engineering, and consulting company thatimprovesseeks to improve the effectiveness of organizations by providing training, management consulting, e-Learning solutions and engineering services and products that are customized to meet the specific needs of clients.GSEClients include Fortune 500 companies and manufacturing, process and energy companies and other commercial and governmental customers. General Physics is a global leader inreal-time high fidelity simulation technology and model development and provides simulationperformance improvement, with four decades of experience in providing solutionsand servicestothe power generation industry, the process industries, and the U.S. Government.optimize workforce performance.In
addition, GSE provides plant monitoring and signal analysis monitoring and optimization software primarily to the power industry, and develops specialized software applications for emerging technologies. On April 26,2005,the Board of Directors elected Scott N. Greenberg, who was then President and Chief Financial Officer of the Company, to the additional position of Chief Executive Officer ("CEO") of the Company, succeeding Jerome I. Feldman. As a result of Mr. Greenberg's appointment as CEO,the Company re-evaluated its reportable business segments underSFASStatement of Financial Accounting Standards (SFAS) No. 131, Disclosures about Segments of an Enterprise and RelatedInformation.Information (SFAS No. 131), as a result of a change in the Company’s Chief Operating Decision Maker (CODM). Based on the information whichMr. Greenbergthe CODM reviews in order to assess the performance of the Company and make decisions regarding the allocation of resources, the Company determined that it hasthree reportable business segments effective with Mr. Greenberg's appointment as CEO. General Physics now consists oftwo reportable business segments: 1) Process, Energy & Government; and 2) Manufacturing & Business Process Outsourcing (BPO).GSE continues to be one reportable business segment.As a result of the change in theCompany'sCompany’s reportable business segments, all prior period segment information presented herein has been restated to conform to the currentperiod'syear’s presentation.The following is a description of the Company’s two reportable business segments:
· Process, Energy & Government — this segment provides engineering consulting, design and evaluation services regarding facilities, the environment, processes and systems, and staff augmentation, curriculum design and development, and training and technical services primarily to federal and state governmental agencies, large government contractors, petroleum and chemical refining companies, and electric power utilities.
The· Manufacturing & BPO — this segment provides training, curriculum design and development, staff augmentation, e-Learning services, system hosting, integration and help desk support, business process and training outsourcing, and consulting and technical services to large companies in the automotive, steel, pharmaceutical, electronics, and other industries as well as to governmental clients.
Capital Stock Restructuring
On
November 24, 2004,January 19, 2006, the Company completed a restructuring of its capital stock, which included the repurchase of 2,121,500 shares of its Common Stock at a price of $6.80 per share, the repurchase of 600,000 shares of its Class B Stock at a price of $8.30 per share, and the exchange of 600,000 shares of its Class B Stock for 600,000 shares of Common Stock and payment of a cash premium of $1.50 per exchanged share. The repurchase prices and exchange premium were based on a fairness opinion rendered by an independent third party valuation firm. The repurchase and exchange transactions were negotiated and approved by a Special Committee of the Board of Directors and had the effect of eliminating all outstanding shares of the Company’s Class B Stock.Prior to the restructuring, the 1,200,000 outstanding shares of Class B Stock collectively represented approximately 41% of the aggregate voting power of the Company since the Class B Stock had ten votes per share. The repurchase of a total of 2,721,500 shares represents approximately 15% of the total outstanding
shares of capital stock of the Company. Approximately $20.3 million was required for the repurchase and exchange and was financed with cash on hand. See Note 7 to the accompanying condensed consolidated financial statements for further details regarding the repurchase and exchange transaction.
Acquisition
On February 14, 2006, the Company completed the
spin-offacquisition ofNational Patent Development Corporation ("NPDC"). SubsequentPeters Management Consultancy Ltd. (PMC), a performance improvement and training company in the United Kingdom. The Company acquired 100% ownership of PMC for a purchase price of $1.3 million in cash, subject to a post-closing adjustment based on actual net equity, plus contingent payments of up to $0.9 million based upon the achievement of certain performance targets during the first year following completion of the acquisition. PMC is included in the Company’s Manufacturing & BPO segment and its results are included in the accompanying condensed consolidated financial statements since the date of acquisition.Operating Highlights
Three Months ended March 31, 2006 compared to the
spin-off, the results of operations of NPDC are presented as discontinued operations forthree Months ended March 31, 2005For the three
and sixmonths endedJune 30, 2004. During the six months ended June 30, 2005, GSE incurred a significant operating loss. GSE's profitability and revenue were primarily impacted by a lower volume of orders logged. In addition, GSE has continued to spend heavily on business development activities in order to expand its simulation business into new sectors, such as the U.S. military and homeland security markets. GSE's cash position weakened during the six months ended June 30, 2005, with total cash decreasing from $868,000 as of December 31, 2004 to $294,000 as of June 30, 2005. As a result, GSE issued and sold to Dolphin Direct Equity Partners, LP, a Senior Subordinated Secured 17Convertible Note in the aggregate principal amount of $2,000,000, maturingMarch 31,2009 (the "Dolphin Note"), and a seven-year warrant to purchase 380,952 shares of GSE common stock at an exercise price of $2.22 per share (the "GSE Warrant"). The note is convertible into 1,038,961 shares of GSE common stock at a conversion price of $1.925 per share and accrues interest at 8% payable quarterly. The aggregate purchase price for the Dolphin Note and GSE Warrant was $2,000,000. In connection with this transaction, General Physics' commitment to loan GSE up to $1,000,000 has been terminated. Additionally, GSE has utilized $725,000 of its $1.5 million credit facility as of June 30, 2005, including $50,000 for a letter of credit. Approximately $775,000 was available to be borrowed under the Credit Agreement as of June 30, 2005. The Company has classified the borrowings outstanding under the Credit Agreement as a current obligation. On June 20, 2005, the Board of Directors approved the Company's plan to spin-off its 57% interest in GSE through a special dividend to the Company's stockholders. Stockholders will receive in the spin-off a pro-rata share of GSE common stock based on the number of shares of the Company's common stock or Class B stock held on the record date, which will be determined on a future date. On July 8, 2005, GSE filed with the Securities and Exchange Commission a registration statement relating to the shares of GSE to be distributed in the spin-off. The Company anticipates that the record date will be set and the spin-off will occur shortly after such registration statement is declared effective. General Physics' backlog for services under signed contracts and subcontracts was approximately $96.9 million as of June 30, 2005. GSE's backlog was approximately $14.7 million as of June 30, 2005. 18Operating Highlights THREE MONTHS ENDED JUNE 30, 2005 COMPARED TO THE THREE MONTHS ENDED JUNE 30, 2004 For the second quarter of 2005,2006, the Company had income from continuing operations before income tax expenseand minority interestof$2,163,000$2.4 million compared to$773,000$1.7 million for thesecond quarter of 2004.three months ended March 31, 2005. The improved results were primarily due to increased operating income of$1,311,000 for General Physics' two business segments, as well as reduced$0.4 million, resulting from an increase in gross profit and a decrease in selling, general and administrative expenses,at the corporate level. These improvements were offset by a reductionand an increase inthe operating segmentother incomefrom GSEof$676,000. Government revenue accounted for approximately 39% of General Physics' revenue for the quarter ended June 30, 2005.$0.4 million.Revenue
(Dollars in Thousands) THREE MONTHS ENDED JUNE 30, ------------------ 2005 2004 ------- --------Process, Energy & Government $20,968 $19,354 Manufacturing & BPO 22,853 20,279 GSE 6,555 7,441 ------- ------- $50,376 $47,074 ======= =======
Three months ended
March 31,
(Dollars in thousands)
2006
2005
Process, Energy & Government
$
19,673
$
21,523
Manufacturing & BPO
23,855
22,037
$
43,528
$
43,560
Process, Energy & Government
segmentrevenueincreased $1.6decreased $1.9 million or8.3%8.6% during thesecondfirst quarter of20052006 compared to the same periodof 2004.in 2005. Theincreasedecrease in revenue is primarily due to a decline in government funding for the Domestic Preparedness Equipment Technical Assistance Program (DPETAP) which resulted in a decrease in revenue of $3.2 million during the first quarter of 2006. This decrease in revenue was offset by an increase ingovernment, homeland security, and various other training services. New contract awards and increased contract scopes to provide thesehurricane recovery servicesto existing customers led to increasedrevenue of $1.3 million during thesecondfirst quarter of2005. Manufacturing & BPO segment revenue increased $2.6 million or 12.7% during the second quarter of 20052006 compared to the same periodof 2004. The increase is due to an increaseinbusiness process outsourcing services provided to customers primarily in the electronics industry,2005.Manufacturing & BPO revenue increased
system implementation and hosting services primarily to the federal government, and increases in other professional development and training courses provided to customers in the manufacturing industry. We continue to expand the scope of services provided to business process and training outsource customers. GSE's revenue decreased $886,000$1.8 million or11.9%8.2% during thesecondfirst quarter of20052006 compared to the same period in 2005. The increase in revenue is due to net increases of2004. The$1.2 million for e-Learning content development and system hosting services, an $0.8 million increase from our international operations, an $0.8 million increase related to a lean manufacturing contract award, and a $0.4 million increase related to other technical services provided primarily to a pharmaceutical customer. This net increase in revenue was offset by other decreases in revenue, primarily due to a change in contract scopes with a business processoutsourcing customer during 2005 which resulted in a decrease
reflects a lower order volume loggedin2004.revenue of $1.3 million during the three months ended March 31, 2006 compared to the same period in 2005.Gross Profit
(Dollars in thousands) THREE MONTHS ENDED JUNE 30, ------------------------------------- 2005 2004 ----------------- ------------------ % Revenue % Revenue --------- ---------Process, Energy & Government $4,058 19.4% $3,637 18.8% Manufacturing & BPO 2,472 10.8% 1,244 6.1% GSE 1,458 22.2% 1,419 19.1% ------ ---- ------ ---- $7,988 15.9% $6,300 13.4% ====== ==== ====== ====19
Three months ended
March 31,
2006
2005
(Dollars in thousands)
% Revenue
% Revenue
Process, Energy & Government
$
2,708
13.8
%
$
3,690
17.1
%
Manufacturing & BPO
3,054
12.8
%
1,854
8.4
%
$
5,762
13.2
%
$
5,544
12.7
%
Process, Energy & Government gross profit of
$4.1$2.7 million or19.4%13.8% of revenue forthe secondfirst quarter of2005 increased2006 decreased by$421,000$1.0 million or11.6%26.6% when compared to gross profit of approximately$3.6$3.7 million or18.8%17.1% of revenue for thesame periodfirst quarter of2004.2005. Thisincreasedecrease in gross profit was primarily driven by a decline in government funding for the DPETAP contract discussed above and a decline in enrollment on certain other training contracts, offset by an increase in gross profit related to an increase in revenuefor trainingfrom hurricane recovery servicesprovidedduring the first quarter of 2006 compared toour government and energy customers. The increase in gross profit as a percentage of revenue is primarily due to a decrease in overhead expenses as a percentage of revenue as our infrastructure costs have not increased at the same rate as our contract revenue growth.2005.Manufacturing & BPO gross profit of
$2.5$3.1 million or10.8%12.8% of revenue for thesecondfirst quarter of20052006 increased by $1.2 million or98.7%64.7% when compared to gross profit of approximately$1.2$1.9 million or6.1%8.4% of revenue for thesame periodfirst quarter of2004.2005. This increase in gross profit was primarily driven by an increase in revenue from e-Learning, lean manufacturing and other technical services, as well as international growth during the first quarter of 2006 compared to 2005. A decrease in lower margin subcontractor utilization and an increase in higher margin internal labor utilization on several business process outsourcingand training outsourcing services. Thecontracts also contributed to an increase in gross profit as a percentage of revenueis primarily dueduring the first quarter of 2006 compared toa decrease in overhead expenses as a percentage of revenue as our2005. Additionally, infrastructure costs have not increased at the same rate as ourcontractrevenuegrowth. GSE gross profit was $1.5 million or 22.2% of revenuegrowth forthe three months ended June 30, 2005 compared to gross profit of $1.4 million or 19.1% of revenuethis segment, resulting inthe same period of 2004, which is relatively flat for these comparative periods.increased profitability.Selling, General and Administrative Expense
SG&A
expenses increaseddecreased $0.2 million or 4.7% from$5.1$3.5 million for thesecond quarter of 2004 to $5.3 million for the second quarter of 2005. This net increase is primarily related to higher legal and accounting fees and certain facility costs at GSE. These increases were partially offset by a decrease in corporate SG&A expenses primarily due to the spin off of NPDC in November 2004, which were not allocable to discontinued operations. Interest Expense Interest expense decreased $0.1 million from $0.5 million for the second quarter of 2004 to $0.4 million for the second quarter of 2005. The decrease was primarily attributable to General Physics' payoff of its short term borrowings in January of 2005. Other Income (Expense) Other expense was $0.1 million for the secondfirst quarter of 2005comparedtoother income of $0.1$3.4 million for the same periodof 2004. The increaseinexpense2006. This net decrease is primarily due to decreases in thereductionprovision for doubtful accounts and legal expenses, offset by an increase inestimated fair valueseverance expense and labor costs during the first quarter ofGSE foreign currency contracts2006 compared to 2005.Interest Expense
Interest expense was $0.4 million for both the
salefirst quarter ofJapanese Yen at fixed rates which2006 and 2005.Other Income
Other income increased $0.4 million during the first quarter of 2006 compared to the same period in 2005. The increase is
recordedprimarily due to increases inother expense. 20interest income and investment income. Income Taxes
Income tax expense increased
by approximately $0.8$0.2 million from$0.4$0.8 million for thesecondfirst quarter of20042005 to$1.2$1.0 million for thesecond quarter of 2005.same period in 2006. This increase is due to increasedincome for the consolidated tax operations for the second quarter of 2005. The Company derived no tax benefit from the $0.4 million loss from GSE operations for the three months ended June 30, 2005, as GSE is not consolidated into the Company's results for federal income tax purposes. SIX MONTHS ENDED JUNE 30, 2005 COMPARED TO THE SIX MONTHS ENDED JUNE 30, 2004 For the six months ended June 30, 2005, the Company hadincome from continuing operations before income tax expenseand minority interestfor the first quarter of$3,105,0002006 compared to$1,089,000 for the same period in 2004. The improved results were primarily due to increased operating income of $2,780,000 for General Physics' two business segments, as well as reduced general and administrative expenses at the corporate level. These improvements were offset by a reduction in the operating segment income from GSE of $1,891,000. Government revenue accounted for approximately 39% of General Physics' revenue for the six months ended June 30,2005.Revenue
(Dollars in Thousands) SIX MONTHS ENDED JUNE 30, ------------------- 2005 2004 -------- --------Process, Energy & Government $ 43,101 $ 38,242 Manufacturing & BPO 44,447 36,700 GSE 12,681 14,852 -------- -------- $100,229 $ 89,794 ======== ========Process, Energy & Government segment revenue increased $4.9 million or 12.7% during the six months ended June 30, 2005 compared to the same period of 2004. The increase is primarily due to an increase in government, homeland security, and various other training services. New contract awards and increased contract scopes to provide these services to existing customers led to increased revenue during the first six months of 2005. Manufacturing & BPO segment revenue increased $7.7 million or 21.1% during the six months ended June 30, 2005 compared to the same period of 2004. The increase is due to an increase in business process outsourcing services provided to customers primarily in the electronics industry, increased system implementation and hosting services primarily to the federal government, and increases in other professional development and training courses provided to customers in the manufacturing industry. We continue to expand the scope of services provided to business process and training outsource customers. GSE revenue decreased $2.2 million or 14.6% during the six months ended June 30, 2005 compared to the same period of 2004. The decrease reflects a lower order volume logged in 2004. 21Gross Profit
(Dollars in thousands) SIX MONTHS ENDED JUNE 30, ------------------------------------------ 2005 2004 -------------------- -------------------- % Revenue % Revenue ---------- ---------Process, Energy & Government $ 7,771 18.0% $ 6,587 17.2% Manufacturing & BPO 4,470 10.1% 2,421 6.6% GSE 2,326 18.3% 2,994 20.2% -------- ---- --------- ---- $ 14,567 14.5% $ 12,002 13.4% ======== ==== ========= ====Process, Energy & Government gross profit of $7.8 million or 18.0% of revenue for the six months ended June 30, 2005 increased by $1.2 million or 18.0% when compared to gross profit of approximately $6.6 million or 17.2% of revenue for the same period of 2004. This increase in gross profit was primarily driven by an increase in revenue for training services provided to our government and energy customers. The increase in gross profit as a percentage of revenue is primarily due to a decrease in overhead expenses as a percentage of revenue as our infrastructure costs have not increased at the same rate as our contract revenue growth. Manufacturing & BPO gross profit of $4.5 million or 10.1% of revenue for the six months ended June 30, 2005 increased by $2.0 million or 84.6% when compared to gross profit of approximately $2.4 million or 6.6% of revenue for the same period of 2004. This increase in gross profit was primarily driven by an increase in revenue from business process outsourcing and training outsourcing services. The increase in gross profit as a percentage of revenue is primarily due to a decrease in overhead expenses as a percentage of revenue as our infrastructure costs have not increased at the same rate as our contract revenue growth. GSE gross profit of $2.3 million or 18.3% of revenue for the six months ended June 30, 2005 decreased by $0.7 million or 22.3% when compared to gross profit of $3.0 million or 20.2% of revenue for the same period of 2004. The decrease in gross profit is primarily attributable to the lower revenue base to cover GSE's relatively fixed overhead costs. Selling, General and Administrative Expense SG&A increased $0.8 million or 7.4% from $10.0 million for the six months ended June 30, 2004 to $10.8 million for the same period of 2005. This net increase is primarily related to higher legal and accounting fees and certain facility costs at GSE. These increases were partially offset by a decrease in corporate SG&A expenses primarily due to the spin off of NPDC in November 2004, which were not allocable to discontinued operations. Interest Expense Interest expense decreased $0.3 million from $1.1 million for the six months ended June 30, 2004 to $0.8 million for the same period of 2005. The decrease was primarily attributable to General Physics' payoff of its short term borrowings in January of 2005. Other Income (Expense) Other income was $0.1 million for the six months ended June 30, 2005 compared to $0.2 million for the same period of 2004. The decrease compared to the prior period is primarily due to a decrease in interest income on 22loans receivable. Additionally, GSE recorded a reduction in the estimated fair value of foreign currency contracts for the sale of Japanese Yen at fixed rates which is included in other expense. Income TaxesIncome tax expenseincreased by approximately $1.4 million from $0.6 millionfor thesix months ended June 30, 2004 to $2.0 million forquarterly periods is based onan estimated annual effective tax rate which includes the
same period of 2005. This increase is due to increased income of the consolidated tax operations for the six months ended June 30, 2005. The Company derived no tax benefit from the $1.4 million loss from GSE operations for the six months ended June 30, 2005, as GSE is not consolidated into the Company's results forfederal and state statutory rates, permanent differences, and other items that may have an impact on income taxpurposes. LIQUIDITY AND CAPITAL RESOURCES WORKING CAPITAL AND CASH FLOWS As of June 30, 2005, theexpense.Liquidity and Capital Resources
Working Capital
The Company had cash and cash equivalents totaling
$6.9 million.$1.1 million as of March 31, 2006, compared to $18.1 million as of December 31, 2005. On January 19, 2006, the Company completed a restructuring of its capital stock in which it used approximately $20.3 million of cash on hand to repurchase 2,121,500 shares of its Common Stock and 600,000 shares of its Class B Stock, and to exchange 600,000 shares of its Class B Stock for 600,000 shares of Common Stock. In connection with the capital stock restructuring, the Company authorized the repurchase of up to $5 million of additional common shares from time to time in the open market, subject to prevailing business and market conditions and other factors. See Note 7 to the accompanying condensed consolidated financial statements for further details regarding the repurchase and exchange transaction. During the first quarter of 2006, the Company repurchased 10,000 shares of its Common Stock in the open market for a total cost of approximately $71,000. During April 2006, the Company repurchased 214,300 shares of its Common Stock in the open market for a total cost of approximately $1,486,000.On February 14, 2006, the Company completed the acquisition of PMC, a performance improvement and training company in the United Kingdom. The purchase price was $1.3 million in cash, subject to a post-closing adjustment based on actual net equity, plus contingent payments of up to $0.9 million based upon the achievement of certain performance targets during the first year following completion of the acquisition.
The Company believes that cash generated from operations and borrowing availability under
itsthe Credit Agreement (described below), will be sufficient to fund the working capital and other requirements of the Company for the foreseeable future.DuringFor the
six monthsquarter endedJune 30, 2005,March 31, 2006, theCompany'sCompany’s working capitalincreased by $6.7decreased $19.8 million from$20.6$34.8 million at December 31,20042005 to$27.3$15.0 million atJune 30, 2005.March 31, 2006. TheCompany'sdecrease is primarily due to the use of approximately $20.3 million of cash in January 2006 to complete the capital stock restructuring discussed above.Cash Flows
Three months ended March 31, 2006 compared to the three months ended March 31, 2005
The Company’s cash balance
increased $4.5decreased $17.0 million from$2.4$18.1 million as of December 31, 2005 to $1.1 million atDecemberMarch 31,2004 to $6.9 million at June 30, 2005.2006. Theincreasedecrease in cash and cash equivalents during thesix months ended June 30, 2005first quarter of 2006 resulted from cash provided by operating activities of$8.2$2.4 million, offset by cash usedbyin investing activities of$0.4$0.8 million, and cash usedbyin financing activities of$3.2 million, and a negative effect of exchange rate changes on cash of approximately $0.1$18.7 million. CashFlowsflows fromOperating Activitiesdiscontinued operations are combined with cash flows from continuing operations within the operating, investing, and financing activities categories in the accompanying consolidated statements of cash flows through the effective date of the spin-off of GSE.Cash provided by operating activities was
$8.2$2.4 million for thesix months ended June 30, 2005first quarter of 2006 compared tocash used in operating activities of $4.1$8.2 million for the same period of2004.2005. Theincreasedecrease in cash provided by operating activities compared to the prior period is primarily due to$1.2 million higher net income in 2005 compared to 2004,receipt of proceeds from the EDSlawsuitarbitration award of $13.8 million in January 2005and increased non-cash compensation expense in 2005 compared to 2004. These increases in cash flows from operating activities were offset by a decrease in changes(including post-award interest). Changes in other operating itemsby approximately $3.1 million,increased in the first quarter of 2006 compared to the same period in 2005 primarily due to a decrease in accrued expenses during the first quarter of 2005 related tothe payout of $5 million of the EDS arbitration proceeds to NPDC pursuant to the spin-off agreement (see Note 12 to the accompanying condensed consolidated financial statements). The decrease in
2005 which were accrued forcash provided by operating activities was offset by an increase in2004. The remaindernet income during the first quarter ofthe change in other operating items is due2006 compared tofavorable changes in working capital. Cash Flows from Investing Activities2005.Cash used
byin investing activities was$0.4$0.8 million for thesix months ended June 30, 2005first quarter of 2006 compared tocash provided by investing activities of $0.1$0.4 million for the same period of2004.2005. Thedecreaseincrease in cash used in investing activities is primarily due toproceeds from$1.4 million of cash paid in connection with thesaleacquisition ofmarketable securitiesPMC net ofapproximately $1.0$0.8 millionin 2004 that did not recur in 2005. This increase incashused by investing activities wasacquired, offset by a decrease in capital expenditures for property, plant and equipment ofapproximately $0.5$0.2 million during thesix months ended June 30, 2005first quarter of 2006 compared tothe same period of 2004. 23Cash Flows from Financing Activities2005.Cash used
byin financing activities was$3.2$18.7 million for thesix months ended June 30, 2005first quarter of 2006 compared tocash provided by financing activities of $3.2$5.0 million for the same period of2004.2005. Thedecreaseincrease in cash used in financing activities is primarily due to $20.8 million of cash used in connection with therepaymentcapital stock restructuring (see Note 7 to the accompanying condensed consolidated financial statements), offset byGeneral Physicscash proceeds ofits$1.7 million from short-term borrowings in 2006 compared to net repayments of short-term borrowings of$6.1 million during the six months ended June 30, 2005. This use of cash was offset by net cash proceeds of $1.5$5.4 million inconnection with GSE's issuance of the Dolphin Note in 2005 compared to repayments of long-term debt by2005.Short-term Borrowings and Long-term Debt
General Physics has a $25 million Credit Agreement with a bank that expires on August 13, 2007, as amended, with annual renewal options, and is secured by certain assets of
$0.6General Physics. The interest rate on borrowings under the Credit Agreement is at the daily LIBOR Market Index Rate plus 3.00%. Based upon the financial performance of General Physics, the interest rate can be reduced. As of March 31, 2006, the rate was reduced to LIBOR plus 2.50% for General Physics, which resulted in a rate of approximately 7.3%. The Credit Agreement also contains certain restrictive covenants. General Physics is currently restricted from paying dividends and management fees to the Company in excess of $1.0 million in2004. Additionally,any fiscal year, with the exception of a waiver by the lender which permits General Physics to provide cashproceeds from the exercise of employee stock options increased by $0.6 million during the six months ended June 30, 2005 comparedto thesame periodCompany to repurchase up to $5 million of2004. LONG-TERM DEBT AND SHORT-TERM BORROWINGS On October 23,additional shares of its outstanding Common Stock (see Note 7 to the accompanying condensed consolidated financial statements). As of March 31, 2006, the Company had $1,732,000 of outstanding borrowings under the Credit Agreement and there was approximately $18,241,000 of available borrowings based upon 80% of eligible accounts receivable and 80% of eligible unbilled receivables. As of December 31, 2005, the Company had no amounts outstanding under the Credit Agreement.In August 2003, the Company
purchased from ManTech International ("ManTech") additional sharesissued and sold to four Gabelli funds $7.5 million aggregate principal amount of 6% Conditional Subordinated Notes due 2008 (Gabelli Notes) and 937,500 warrants (GP Warrants), each entitling the holder thereof to purchase (subject to adjustment) one share of the Company’s Common Stock at an exercise price of $8.00. The aggregate purchase price for the Gabelli Notes and GP Warrants was $7.5 million. The Gabelli Notes are secured by a mortgage on the Company’s former property located in Pawling, New York which was distributed to National Patent Development Corporation. In addition, at any time that less than $1,875,000 million principal amount of the Gabelli Notes is outstanding, the Company may defease the obligations secured by the mortgage and obtain a release of the mortgage. Subsequent to the spin-offs of NPDC and GSEcommon stockand inexchange foraccordance with the anti-dilution provisions of the warrant agreement, the number of GP Warrants was adjusted to 984,116 and the exercise price was adjusted to $5.85 per share. As of March 31, 2006, there were 983,116 warrants with an exercise price of $5.85 outstanding and exercisable.In October 2003, the Company issued a five-year 5% note
for $5.3 milliondue in full in October2008.2008 in the principal amount of $5,250,955 to ManTech International (ManTech). Interest is payable quarterly. Each year during the term of the note, ManTech has the option to convert up to 20% of the original principal amount of the note intocommon stockCommon Stock of the Company at the then market price of theCompany's common stock,Company’s Common Stock, but only in the event that theCompany's common stockCompany’s Common Stock is trading at $10 per share or more.Pursuant to a Note and Warrant Purchase Agreement dated August 8, 2003,In theCompany issued and sold to four Gabelli funds $7.5 million aggregate principal amount of 6% Conditional Subordinated Notes due 2008 and 937,500 warrants, each entitling the holder thereof to purchase (subject to adjustment) one share of the Company's common stock. The aggregate purchase price for the Gabelli Notes and GP Warrants was $7.5 million. The Gabelli Notes are secured by a mortgage on the Company's former property located in Pawling, New York which was distributed to NPDC in the spin-off. In addition, at any timeevent that less than$1.9 million20% of the principalamount of the
Gabelli Notes are outstanding, the Company may defease the obligations secured by the mortgage and obtain a release of the mortgage. General Physics and General Physics' subsidiary, SkillRight, Inc., have a three-year $25 million Credit Agreement with a bank that expires on August 13, 2006 with annual renewal options. The interest rate on borrowings under the Credit Agreementnote isat the daily LIBOR Market Index Rate plus 3%. The Credit Agreement, as amended in March 2004 to include GSE, is secured by certain assets of General Physics. The Credit Agreement also contains certain restrictive covenants. General Physics is currently restricted from paying dividends and management fees to the Company in excess of $1.0 millionnot converted in anyfiscal year. The Companyyear, such amount not converted will be eligible for conversion in each subsequent year until converted or until the note is repaid infull the $6.1 million outstanding under the Credit Agreement as of December 31, 2004 in January of 2005, using the proceeds received from the EDS arbitration award (see Note 8 to the condensed consolidated financial statements). On March 9, 2005, General Physics received a waiver to loan GSE a maximum of $1.0 million to satisfy any GSE short-term capital requirements over the next 15 months. In connection with GSE's issuance and sale of the Dolphin Note (discussed below), General Physics' commitment to loan GSE a maximum of $1.0 million was terminated. On March 30, 2004, GSE was added as an additional borrower under the General Physics Credit Agreement. Under the terms of the Credit Agreement, as amended, $1.5 million of General Physics' Credit Agreement was allocated for use by GSE. The Credit Agreement was amended to provide for additional collateral consisting of substantially all of GSE's assets as well as certain covenants specific to GSE. The interest rate is based upon the daily LIBOR Market Index Rate plus 3%, with interest only payments due monthly. The Company agreed to guarantee GSE's borrowings under the Credit Agreement, as amended, in consideration for a fee pursuant to the Management Services Agreement. The Credit Agreement requires GSE to comply with certain financial ratios. At both March 31, 2005 and June 30, 2005, GSE was not in compliance with its debt service coverage ratio. The Company obtained a letter dated August 4, 2005 in which the lender has agreed to forbear from exercising its rights under the Credit Agreement against the borrowers with respect to this event of default by GSE until the delivery of the annual financial 24statements for the year ended December 31, 2005. The lender will charge GSE a fee of approximately $2,500 as compensation for the waiver. The Company has classified the borrowings outstanding under the Credit Agreement as a current obligation. On May 26, 2005, GSE issued and sold to Dolphin Direct Equity Partners, LP, a Senior Subordinated Secured Convertible Note in the aggregate principal amount of $2,000,000, maturing March 31, 2009, and a seven-year warrant to purchase 380,952 shares of GSE common stock at an exercise price of $2.22 per share. The note is convertible into 1,038,961 shares of GSE common stock at a conversion price of $1.925 per share and accrues interest at 8% payable quarterly. The aggregate purchase price for the Dolphin Note and GSE Warrant was $2,000,000. In connection with this transaction, General Physics' commitment to loan GSE up to $1,000,000 was terminated. Under the terms of the note, the number of shares of GSE common stock actually issued on conversion of the Dolphin Note, when aggregated with the number of shares of GSE common stock actually issued upon exercise of the GSE Warrant, could not exceed 19.99% of the outstanding shares of GSE common stock on May 26, 2005 (the "Conversion Share Limit"). Of the $2 million proceeds from the sale of the Dolphin Note, $500,000 was placed in escrow until the termination of the Conversion Share Limit which expired on June 29, 2005. The $500,000 of cash in escrow was released to GSE on July 7, 2005. NEW ACCOUNTING STANDARDcash.In December 2004, the
FASBFinancial Accounting Standards Board issuedSFASStatement of Financial Accounting Standards No.123 - Revised (SFAS No. 123R),123R, Share-Based Payment, which revises SFAS No. 123, Accounting for Stock-Based Compensation, and supersedesAPBAccounting Principles Board Opinion No. 25, Accounting for Stock Issued toEmployees. Currently, the Company does not recordEmployees, and requires companies to recognize compensation expense forcertain stock-based compensation. Underall equity-based compensation awards issued to employees that are expected to vest. The Company adopted SFAS No. 123Rthe Company will measure the cost of employee services received in exchange for stock, basedonthe grant-date fair value (with limited exceptions) of the stock award. Such cost will be recognized over the period during which the employee is required to provide service in exchange for the stock award (usually the vesting period). The fair value of the stock award will be estimated using an option-pricing model, with excess tax benefits, as defined in SFAS No. 123R, being recognized as an addition to paid in capital. SFAS No. 123R was to be effective as of July 1, 2005. However, based on Final Rule 74 issued by the Securities and Exchange Commission in April 2005, which delayed the implementation of SFAS No. 123R, the Company plans to adopt SFAS No. 123R effectiveJanuary 1,2006. The Company expects to adopt SFAS No. 123R2006, using the Modified Prospective Application method without restatement of prior periods. Under this method, the Companywill beginbegan to amortize compensation cost for the remaining portion of its outstanding awardson the adoption datefor which the requisite servicehaswas not yetbeen rendered.rendered as of January 1, 2006. Compensation cost for these awardswill beis based on the fair value of those awards as previously disclosed on apro-formapro forma basis under SFAS123 in Note 3, Stock-Based Compensation.No. 123. The Company will determine the fair value of and account for awards that are granted, modified, or settled afterthe adoption dateJanuary 1, 2006 in accordance with SFAS No. 123R.During the three months ended March 31, 2006, the Company recognized $150,000 of pre-tax stock-based compensation expense under the fair value method in accordance with SFAS No. 123R. This was comprised of $75,000 for stock options and $75,000 for non-vested stock units. The Company
is currently inrecognized a deferred income tax benefit of $60,000 associated with theprocesscompensation expense recognized for these awards. As ofevaluatingMarch 31, 2006, theimpactCompany had $115,000 ofSFAS No. 123R onunrecognized compensation related to the unvested portion of outstanding stock options awards expected to be recognized through July 2007 (a weighted-average remaining vesting period of less than one year). As of March 31, 2006, the Company had unrecognized compensation cost of $1,058,000 related to the unvested portion of itsconsolidated financial statements. FORWARD-LOOKING STATEMENTSoutstanding stock units expected to be recognized over a weighted average remaining service period of approximately four years. The Company did not grant any stock-based compensation awards during the first quarter of 2006.This report contains forward-looking statements
contained hereinwithin the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for forward looking statements. Forward—looking statements are not statements of historical facts, but rather reflectGP Strategies' management'sour currentviews with respect toexpectations concerning future events andfinancial performance.results. We use words such as"expects"“expects”,"intends"“intends”, “believes”, “may”, “will” and"anticipates"“anticipates” to indicate forward-looking statements.TheseBecause these forward-looking statementsare subject to certaininvolve risks and uncertainties, there are important factors that could cause actual results to differ materially from thosein theexpressed or implied by these forward-looking statements,all of which are difficult to predict and many of which are beyond the control of GP Strategies,including, but not limited to, those factors set forth under Item 1A - Risk Factors of theability of GSE to secure additional financing, our holding company structure, failure to continue to attract and retain personnel, loss of business from significant customers, failure to keep pace with technology, changing economic conditions, competition, our ability to implement procedures that will reduce the likelihood that material 25weaknesses in internal control over financial reporting will not occur in the future,Company’s 2005 Annual Report on Form 10-K and those other risks and uncertainties detailed inGP Strategies'the Company’s periodic reports and registration statements filed with the Securities and Exchange Commission. We caution that these risk factors may not be exhaustive. We operate in a continually changing business environment, and new risk factors emerge from time to time. We cannot predict these new risk factors, nor can we assess the effect, if any, of the new risk factors on our business or the extent to which any factor or combination of factors may cause actual results to differ from those expressed or implied by these forward-looking statements.If any one or more of these expectations and assumptions proves incorrect, actual results will likely differ materially from those contemplated by the forward-looking statements. Even if all of the foregoing assumptions and expectations prove correct, actual results may still differ materially from those expressed in the forward-looking statements as a result of factors we may not anticipate or that may be beyond our control. While we cannot assess the future impact that any of these differences could have on our business, financial condition, results of operations and cash flows or the market price of shares of our common stock, the differences could be significant. We do not undertake to update any forward-looking statements made by
us. 26ITEMus, whether as a result of new information, future events or otherwise. You are cautioned not to unduly rely on such forward-looking statements when evaluating the information presented in this report.Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKQuantitative and Qualitative Disclosure About Market RiskThe Company has no material changes to the disclosure on this matter made in its
reportAnnual Report on Form10-K/A10-K for the fiscal year ended December 31,2004. GSE's most significant market risk is changes in foreign currency exchange rates. GSE's exposure to foreign currency exchange rate fluctuations arises in part from inter-company accounts in which costs incurred in one entity are charged to other entities in different foreign jurisdictions. GSE is also exposed to foreign currency exchange rate fluctuations as the financial results of all foreign subsidiaries are translated into U.S. dollars in consolidation. As exchange rates vary, those results when translated may vary from expectations2005.Item 4. Controls and
adversely impact overall expected profitability. GSE utilizes various derivative financial instruments to manage market risks associated with the fluctuations in foreign currency exchange rates. It is GSE's policy to use derivative financial instruments to protect against market risk arising in the normal course of business. GSE monitors its foreign currency exposures to maximize the overall effectiveness of its foreign currency positions. GSE's objective in holding derivatives is to minimize risks by using methods to reduce the impact of these exposures. GSE minimizes credit exposure by limiting counterparties to nationally recognized financial institutions. As of June 30, 2005, GSE had foreign currency contracts for the sale of $2.8 million Japanese Yen at fixed rates. The contracts expire at various dates through May 2007. The Company has not designated the contracts as hedges and, accordingly, has recorded the reduction in estimated fair value of the contracts during the quarter and six months ended June 30, 2005 of $102,000 and $157,000, respectively, in the accompanying condensed consolidated financial statements. ITEM 4. CONTROLS AND PROCEDURESProceduresWe carried out an evaluation, under the supervision and with the participation of our management including our Chief Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13-15(b) of the Securities Exchange Act of 1934, as amended. Based upon that evaluation and the material
weaknessesweakness described below, the Chief Executive Officer and Chief Financial Officer concluded that theCompany'sCompany’s disclosure controls and procedures were not effective as of the date covered by this report.As discussed more fully in Item 9A of our Annual Report on Form
10-K/A-210-K datedApril 29, 2005,March 16, 2006, for the year ended December 31,2004,2005, in connection with our audit of our consolidated financial statements for the fiscal year ended December 31,2004,2005, we determined that theCompany's policiesCompany’s account reconciliation andprocedures didmanagement review controls over the accounting for income taxes were notprovide for adequate management oversight and reviewoperating effectively because of theCompany's income tax accounting. Thislack of adequatemanagement oversight and review of the Company's incometax accountingresulted inexpertise as of December 31, 2005. As a result, there was a materialerrorsmisstatement in theCompany'sCompany’s income tax provisionwhich were identified andthat was corrected prior to the issuance of the consolidated financial statements for the year ended December 31,2004. This deficiency represents more than a remote likelihood that a material misstatement of the Company's annual or interim financial statements would not have been prevented or detected. The Company's policies and procedures did not provide for adequate management oversight and review of the Company's consolidated financial statements and footnote disclosures. In addition, the Company did not have adequate technical resources to ensure the timely completion and review of its consolidated financial statements and footnote disclosures. These deficiencies resulted in material errors in the consolidated financial statements, primarily the number of weighted average common shares outstanding used in the earnings per share calculation, the presentation of cash flows from operating and financing activities, and certain financial statement footnote disclosures related to income taxes and stock-based compensation, which were identified and corrected prior to 27the issuance of the 2004 consolidated financial statements. These deficiencies represent more than a remote likelihood that a material misstatement of the Company's annual or interim financial statements would not have been prevented or detected.2005.Based on the material
weaknessesweakness described above, management concluded that theCompany'sCompany’s internal control over financial reporting was not effective as of December 31,2004.2005. This assessment is based onmanagement'smanagement’s conclusion that as of December 31,2004,2005, there was more than a remote likelihood that a material misstatement of theCompany'sCompany’s annual or interim financial statements would not be prevented or detected on a timely basis by Company employees in the normal course of performing their assigned functions.As a result, we implemented changes in certain of our internal controls over financial reporting during the
sixthree months endedJune 30, 2005,March 31, 2006, as follows:-· The Company has, subsequent to December 31,
2004, revised2005, continued to revise its processes and proceduresto prepare the consolidated income tax provision and the consolidated financial statements and footnote disclosures, and implemented additional management review controlsover therelated processes. -accounting for income taxes.· The Company hired a new Director of
Financial Reporting who is dedicatedTax on December 31, 2005 which we believe will provide the Company with the necessary technical skills to perform, review and analyze complex tax accounting activities.We believe these improvements in our internal controls will enable us to remediate the
Company's financial reporting requirements.material weakness; however, such determination will not occur until these additional controls have been in place for a period of time sufficient to demonstrate that the controls are operating effectively. We will continue to evaluate the effectiveness of our disclosure controls and procedures and our internal controls over financial reporting on an ongoing basis, and will take further action as appropriate. However, there can be no assurance that our controls and procedures will prevent or detect material misstatement of theCompany'sCompany’s annual or interim financial statements.2825
PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS On April 24, 2005,None.
The Company has no material changes to the disclosure on this matter made in its Annual Report on Form 10-K for the fiscal year ended December 31, 2005.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The following table provides information about the Company’s share repurchase activity for the three months ended March 31, 2006:
Month
Total number
of shares
purchased
Average
price paid
per share
Total number
of shares
purchased as
part of publicly
announced program
Approximate
dollar value of
shares that may yet
be purchased under
the program
January 1-31, 2006
—
—
—
—
February 1-28, 2006
—
—
—
—
March 1-31, 2006
10,000
(1)
$
7.08
10,000
$
4,929,200
(1) Represents shares repurchased in the open market in connection with the Company’s share repurchase program under which the Company
heldmay repurchase up to $5 million if itsannual meeting of shareholders. At that meeting,common stock from time to time in thefollowing matters were voted upon: 1. All of the Directors nominatedopen market subject to prevailing business and market conditions and other factors. This program was authorized by theCompany were elected as follows:
Common Shares Cast: Class B Shares Cast: ------------------- -------------------- For Withheld For Withheld --- -------- --- --------Harvey P. Eisen 14,466,822 85,527 12,000,000 0 Jerome I. Feldman 14,460,265 92,084 12,000,000 0 Marshall S. Geller 14,488,371 63,978 12,000,000 0 Scott N. Greenberg 14,465,639 86,710 12,000,000 0 Scott R. Peppet 14,491,033 61,316 12,000,000 0 Richard C. Pfenniger, Jr. 14,491,432 60,917 12,000,000 0 Ogden R. Reid 14,488,023 64,326 12,000,000 0 Matthew Zell 14,462,592 89,757 12,000,000 02. The ratificationCompany’s Board ofKPMG LLP as independent auditorsDirectors and wasapproved. With respectpublicly announced on January 19, 2006. There is no expiration date for the repurchase program.Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to
holdersa Vote ofcommon stock, the number of affirmative votes cast was 14,478,647 and the number of votes cast against was 73,702. With respect to holders of Class B common stock, the number of affirmative votes cast was 12,000,000 and the number of votes cast against was zero. ITEMSecurity HoldersNone.
Item 5.
OTHER INFORMATION Effective April 11, 2005, General Physics entered into employment agreements with certain of its officers. These agreements have employment terms expiring in 2007, provide for grants of restricted stock units pursuant to the Company's 2003 Incentive Stock Plan (the "Plan"), contain non-compete covenants and change of control and termination provisions. The form of the employment agreement is filed herewith as Exhibit 10.1. On April 11, 2005, the Company granted 172,000 restricted stock units to certain officers of General Physics pursuant to the Plan. Each stock unit is equivalent to one share of Company stock and vests to the officers of General Physics over a five year service period. The form of the stock unit agreement is filed herewith as Exhibit 10.2. 29Other Information None.
ITEM 6. EXHIBITS - ------ --------10.1 Form of Employment Agreement between General Physics Corporation and certain officers.* 10.2 Form of Stock Unit Agreement between GP Strategies Corporation and certain executive officers.* 10.3 Lock-Up Agreement between GP Strategies Corporation and Scott Greenberg in connection with stock grant authorized by the Compensation Committee of the Board of Directors on March 23, 2005.* 10.4 Lock-Up Agreement between GP Strategies Corporation and Doug Sharp in connection with stock grant authorized by the Compensation Committee of the Board of Directors on March 23, 2005.* 10.5 Stock Unit Agreement between GP Strategies Corporation and Andrea Kantor.* 10.6 Forbearance letter dated August 4, 2005.* 10.7 Amendment, dated July 1, 2005, to the Management Agreement, dated July 30, 2004, between GP Strategies Corporation and National Patent Development Corporation.* 10.8 Termination Agreement, dated June 30, 2005, of the Management Agreement, dated July 30, 2004, between National Patent Development Corporation and GP Strategies Corporation.* 10.9 Form of Management Agreement between GP Strategies Corporation and National Patent Development Corporation. Incorporated herein by reference to Exhibit 10.1 of National Patent Development Corporation Form S-1, Registration No. 333-118568.10.61. 10.10 Form of Management Agreement between National Patent Development Corporation and GP Strategies Corporation. Incorporated herein by reference to Exhibit 10.2 of National Patent Development Corporation Form S-1, Registration No. 333-118568.31.1
Certification of Chief Executive Officer
and Chief Financial Officerof the Company datedAugustMay 9,20052006 pursuant to Securities and Exchange Act Rule 13d-14(a)/15(d-14(a), as adopted pursuant to Section 302 and 404 of the Sarbanes-Oxley Act of 2002.*31.2
Certification of Executive Vice President and Chief Financial Officer of the Company dated May 9, 2006 pursuant to Securities and Exchange Act Rule 13d-14(a)/15(d-14(a), as adopted pursuant to Section 302 and 404 of the Sarbanes-Oxley Act of 2002.*
32.1
Certification of Chief Executive Officer and Chief Financial Officer of the Company dated
AugustMay 9,20052006 pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*- ------------- *Filed* Filed herewith
30SIGNATURE27
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed
inon its behalf by the undersigned thereunto duly authorized.GP STRATEGIES CORPORATION August 9, 2005 /s/ Scott N. Greenberg --------------------------- Chief Executive Officer and Chief Financial Officer 31
GP STRATEGIES CORPORATION
May 9, 2006
/s/ SCOTT N. GREENBERG
Chief Executive Officer
/s/ SHARON ESPOSITO-MAYER
Executive Vice President and Chief Financial Officer
28