UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
x Quarterly Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of 1934
For the quarterly period ended September 30, 20062007
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 1-7234
GP STRATEGIES CORPORATION
(Exact name of Registrant as specified in its charter)
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 area code:
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate 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 |
|
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12(b)-2 of the Exchange Act). Yes o No x
Indicate the number of shares outstanding of each of issuer’s classes of common stock as of October 31, 2006:2007:
Class |
| Outstanding |
|
Common Stock, par value $.01 per share |
|
|
|
GP STRATEGIES CORPORATION AND SUBSIDIARIES
TABLE OF CONTENTS
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In thousands, except per share amounts)
|
| September 30, |
| December 31, |
|
| September 30, |
| December 31, |
| ||||
|
| 2006 |
| 2005 |
|
| 2007 |
| 2006 |
| ||||
|
| (Unaudited) |
|
|
|
| (Unaudited) |
|
|
| ||||
Assets |
|
|
|
|
|
|
|
|
|
| ||||
Current assets: |
|
|
|
|
|
|
|
|
|
| ||||
Cash and cash equivalents |
| $ | 5,216 |
| $ | 18,118 |
|
| $ | 2,662 |
| $ | 8,660 |
|
Accounts and other receivables, less allowance for doubtful accounts of $666 in 2006 and $1,166 in 2005 |
| 24,524 |
| 27,079 |
| |||||||||
Accounts and other receivables, less allowance for doubtful accounts of $790 in 2007 and $665 in 2006 |
| 36,502 |
| 26,628 |
| |||||||||
Inventories, net |
| 737 |
| — |
| |||||||||
Costs and estimated earnings in excess of billings on uncompleted contracts |
| 12,686 |
| 11,487 |
|
| 17,683 |
| 11,257 |
| ||||
Prepaid expenses and other current assets |
| 4,930 |
| 5,936 |
|
| 6,853 |
| 6,411 |
| ||||
Total current assets |
| 47,356 |
| 62,620 |
|
| 64,437 |
| 52,956 |
| ||||
Property, plant and equipment |
| 6,537 |
| 6,619 |
|
| 8,373 |
| 6,985 |
| ||||
Accumulated depreciation |
| (4,867 | ) | (4,762 | ) |
| (5,568 | ) | (5,126 | ) | ||||
Property, plant and equipment, net |
| 1,670 |
| 1,857 |
|
| 2,805 |
| 1,859 |
| ||||
Goodwill |
| 58,530 |
| 57,483 |
|
| 59,918 |
| 56,815 |
| ||||
Other intangible assets, net |
| 695 |
| 647 |
| |||||||||
Intangible assets, net of accumulated amortization of $2,439 in 2007 and $916 in 2006 |
| 5,759 |
| 645 |
| |||||||||
Deferred tax assets |
| 7,498 |
| 10,391 |
|
| 2,235 |
| 7,420 |
| ||||
Other assets |
| 1,463 |
| 1,643 |
|
| 2,878 |
| 1,705 |
| ||||
|
| $ | 117,212 |
| $ | 134,641 |
|
| $ | 138,032 |
| $ | 121,400 |
|
Liabilities and Stockholders’ Equity |
|
|
|
|
|
|
|
|
|
| ||||
Current liabilities: |
|
|
|
|
|
|
|
|
|
| ||||
Short-term borrowings |
| $ | 3,330 |
| $ | — |
| |||||||
Current maturities of long-term debt |
| $ | 35 |
| $ | 71 |
|
| 2,729 |
| 30 |
| ||
Accounts payable and accrued expenses |
| 19,698 |
| 20,315 |
|
| 28,569 |
| 22,903 |
| ||||
Billings in excess of costs and estimated earnings on uncompleted contracts |
| 5,473 |
| 7,430 |
|
| 6,491 |
| 6,881 |
| ||||
Total current liabilities |
| 25,206 |
| 27,816 |
|
| 41,119 |
| 29,814 |
| ||||
Long-term debt less current maturities |
| 11,260 |
| 11,309 |
|
| 5,251 |
| 10,896 |
| ||||
Other noncurrent liabilities |
| 1,219 |
| 1,174 |
|
| 1,040 |
| 959 |
| ||||
Total liabilities |
| 37,685 |
| 40,299 |
|
| 47,410 |
| 41,669 |
| ||||
|
|
|
|
|
|
|
|
|
|
| ||||
Stockholders’ equity: |
|
|
|
|
|
|
|
|
|
| ||||
Common stock, par value $0.01 per share |
| 178 |
| 171 |
|
| 178 |
| 178 |
| ||||
Class B capital stock, par value $0.01 per share |
| — |
| 12 |
| |||||||||
Additional paid-in capital |
| 161,613 |
| 168,737 |
|
| 157,436 |
| 159,042 |
| ||||
Accumulated deficit |
| (66,849 | ) | (71,710 | ) |
| (58,711 | ) | (65,558 | ) | ||||
Treasury stock at cost |
| (14,460 | ) | (29 | ) |
| (7,900 | ) | (13,167 | ) | ||||
Unearned compensation |
| — |
| (1,133 | ) | |||||||||
Accumulated other comprehensive loss |
| (831 | ) | (1,087 | ) |
| (381 | ) | (640 | ) | ||||
Note receivable from stockholder |
| (124 | ) | (619 | ) |
| — |
| (124 | ) | ||||
Total stockholders’ equity |
| 79,527 |
| 94,342 |
|
| 90,622 |
| 79,731 |
| ||||
|
| $ | 117,212 |
| $ | 134,641 |
|
| $ | 138,032 |
| $ | 121,400 |
|
See accompanying notes to condensed consolidated financial statements.
1
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(Unaudited)
(In thousands, except per share amounts)data)
|
| Three Months Ended |
| Nine Months Ended |
|
| Three months ended |
| Nine months ended |
| ||||||||||||||||
|
| September 30, |
| September 30, |
|
| September 30, |
| September 30, |
| ||||||||||||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
|
| 2007 |
| 2006 |
| 2007 |
| 2006 |
| ||||||||
Revenue |
| $ | 44,051 |
| $ | 44,059 |
| $ | 133,358 |
| $ | 131,278 |
|
| $ | 60,837 |
| $ | 44,051 |
| $ | 178,038 |
| $ | 133,358 |
|
Cost of revenue |
| 37,141 |
| 37,371 |
| 113,729 |
| 112,678 |
|
| 51,790 |
| 37,141 |
| 151,645 |
| 113,729 |
| ||||||||
Gross profit |
| 6,910 |
| 6,688 |
| 19,629 |
| 18,600 |
|
| 9,047 |
| 6,910 |
| 26,393 |
| 19,629 |
| ||||||||
Selling, general and administrative expenses |
| 3,827 |
| 4,060 |
| 10,831 |
| 10,996 |
|
| 4,665 |
| 3,827 |
| 14,273 |
| 10,831 |
| ||||||||
Operating income |
| 3,083 |
| 2,628 |
| 8,798 |
| 7,604 |
|
| 4,382 |
| 3,083 |
| 12,120 |
| 8,798 |
| ||||||||
Interest expense |
| 376 |
| 387 |
| 1,233 |
| 1,129 |
|
| 296 |
| 376 |
| 955 |
| 1,233 |
| ||||||||
Other income |
| 180 |
| 87 |
| 764 |
| 141 |
|
| 148 |
| 180 |
| 662 |
| 764 |
| ||||||||
Income from continuing operations before income tax expense |
| 2,887 |
| 2,328 |
| 8,329 |
| 6,616 |
| |||||||||||||||||
Income before income tax expense |
| 4,234 |
| 2,887 |
| 11,827 |
| 8,329 |
| |||||||||||||||||
Income tax expense |
| 1,140 |
| 869 |
| 3,468 |
| 2,874 |
|
| 1,690 |
| 1,140 |
| 4,882 |
| 3,468 |
| ||||||||
Income from continuing operations |
| 1,747 |
| 1,459 |
| 4,861 |
| 3,742 |
| |||||||||||||||||
|
|
|
|
|
|
|
|
|
| |||||||||||||||||
Loss from discontinued operations, net of income taxes |
| — |
| (417 | ) | — |
| (1,012 | ) | |||||||||||||||||
Net income |
| $ | 1,747 |
| $ | 1,042 |
| $ | 4,861 |
| $ | 2,730 |
|
| $ | 2,544 |
| $ | 1,747 |
| $ | 6,945 |
| $ | 4,861 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||
Basic weighted average shares outstanding |
| 15,657 |
| 18,260 |
| 16,535 |
| 18,105 |
|
| 16,850 |
| 15,657 |
| 16,581 |
| 16,535 |
| ||||||||
Diluted weighted average shares outstanding |
| 16,555 |
| 18,991 |
| 17,438 |
| 18,916 |
|
| 17,330 |
| 16,555 |
| 17,157 |
| 17,438 |
| ||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||
Per common share data: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||
Basic |
|
|
|
|
|
|
|
|
| |||||||||||||||||
Income from continuing operations |
| $ | 0.11 |
| $ | 0.08 |
| $ | 0.29 |
| $ | 0.21 |
| |||||||||||||
Loss from discontinued operations |
| — |
| (0.02 | ) | — |
| (0.06 | ) | |||||||||||||||||
Net income |
| $ | 0.11 |
| $ | 0.06 |
| $ | 0.29 |
| $ | 0.15 |
| |||||||||||||
Diluted |
|
|
|
|
|
|
|
|
| |||||||||||||||||
Income from continuing operations |
| $ | 0.11 |
| $ | 0.07 |
| $ | 0.28 |
| $ | 0.20 |
| |||||||||||||
Loss from discontinued operations |
| — |
| (0.02 | ) | — |
| (0.06 | ) | |||||||||||||||||
Net income |
| $ | 0.11 |
| $ | 0.05 |
| $ | 0.28 |
| $ | 0.14 |
| |||||||||||||
Basic earnings per share |
| $ | 0.15 |
| $ | 0.11 |
| $ | 0.42 |
| $ | 0.29 |
| |||||||||||||
Diluted earnings per share |
| $ | 0.15 |
| $ | 0.11 |
| $ | 0.40 |
| $ | 0.28 |
|
See accompanying notes to condensed consolidated financial statements.
2
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statement of Stockholders’ Equity
(Unaudited)
Nine months ended September 30, 2006
(In thousands, except for par value per share)
|
|
|
| Class B |
|
|
|
|
|
|
|
|
| Accumulated |
| Note |
|
|
| |||||||||
|
| Common |
| capital |
|
|
|
|
|
|
|
|
| other |
| receivable |
| Total |
| |||||||||
|
| stock |
| stock |
| Additional |
| Accumulated |
| Treasury |
| Unearned |
| comprehensive |
| from |
| stockholders’ |
| |||||||||
|
| ($0.01 par) |
| ($0.01 par) |
| paid-in capital |
| deficit |
| stock at cost |
| compensation |
| loss |
| stockholder |
| equity |
| |||||||||
Balance at December 31, 2005 |
| $ | 171 |
| $ | 12 |
| $ | 168,737 |
| $ | (71,710 | ) | $ | (29 | ) | $ | (1,133 | ) | $ | (1,087 | ) | $ | (619 | ) | $ | 94,342 |
|
Net income |
| — |
| — |
| — |
| 4,861 |
| — |
| — |
| — |
| — |
| 4,861 |
| |||||||||
Repurchase and exchange of common stock and Class B stock in capital stock restructuring |
| 6 |
| (12 | ) | (6,096 | ) | — |
| (14,758 | ) | — |
| — |
| — |
| (20,860 | ) | |||||||||
Repayment of note receivable from stockholder |
| — |
| — |
| — |
| — |
| — |
| — |
| — |
| 495 |
| 495 |
| |||||||||
Repurchases of common stock in the open market |
| — |
| — |
| — |
| — |
| (1,939 | ) | — |
| — |
| — |
| (1,939 | ) | |||||||||
Elimination of unearned compensation upon adoption of SFAS No. 123R |
| — |
| — |
| (1,133 | ) | — |
| — |
| 1,133 |
| — |
| — |
| — |
| |||||||||
Stock-based compensation expense |
| — |
| — |
| 373 |
| — |
| 27 |
| — |
| — |
| — |
| 400 |
| |||||||||
Other comprehensive income |
| — |
| — |
| — |
| — |
| — |
| — |
| 256 |
| — |
| 256 |
| |||||||||
Net issuances of stock for exercises of stock options and warrants and retirement savings plan |
| 1 |
| — |
| (268 | ) | — |
| 2,239 |
| — |
| — |
| — |
| 1,972 |
| |||||||||
Balance at September 30, 2006 |
| $ | 178 |
| $ | — |
| $ | 161,613 |
| $ | (66,849 | ) | $ | (14,460 | ) | $ | — |
| $ | (831 | ) | $ | (124 | ) | $ | 79,527 |
|
See accompanying notes to condensed consolidated financial statements.
3
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
Nine months ended September 30, 20062007 and 20052006
(Unaudited, in thousands)
(Unaudited)
(In thousands)
|
| 2006 |
| 2005 |
|
| 2007 |
| 2006 |
| ||||
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
|
| ||||
Net income |
| $ | 4,861 |
| $ | 2,730 |
|
| $ | 6,945 |
| $ | 4,861 |
|
Adjustments to reconcile net income to net cash provided by operating activities: |
|
|
|
|
|
|
|
|
|
| ||||
Depreciation and amortization |
| 1,961 |
| 2,506 |
|
| 3,000 |
| 1,685 |
| ||||
Collection of deposit in escrow, including interest |
| — |
| 13,798 |
| |||||||||
Deferred income taxes |
| 2,653 |
| 2,300 |
|
| 3,887 |
| 2,653 |
| ||||
Issuance of stock for retirement savings plan and non-cash compensation expense |
| 1,232 |
| 900 |
| |||||||||
Minority interest |
| — |
| (953 | ) | |||||||||
Changes in other operating items, net of effect of acquisition: |
|
|
|
|
| |||||||||
Non-cash compensation expense |
| 1,478 |
| 1,232 |
| |||||||||
Changes in other operating items, net of effect of acquisitions: |
|
|
|
|
| |||||||||
Accounts and other receivables |
| 3,317 |
| 4,362 |
|
| (8,693 | ) | 3,317 |
| ||||
Inventories |
| 46 |
| — |
| |||||||||
Costs and estimated earnings in excess of billings on uncompleted contracts |
| (1,199 | ) | (737 | ) |
| (6,426 | ) | (1,199 | ) | ||||
Prepaid and other current assets |
| 859 |
| (2,729 | ) | |||||||||
Prepaid expenses and other current assets |
| 411 |
| 1,135 |
| |||||||||
Accounts payable and accrued expenses |
| (1,356 | ) | (7,998 | ) |
| 2,919 |
| (1,356 | ) | ||||
Billings in excess of costs and estimated earnings on uncompleted contracts |
| (2,611 | ) | (1,988 | ) |
| (1,856 | ) | (2,611 | ) | ||||
Other |
| 45 |
| (420 | ) |
| 117 |
| 45 |
| ||||
Net cash provided by operating activities |
| 9,762 |
| 11,771 |
|
| 1,828 |
| 9,762 |
| ||||
|
|
|
|
|
| |||||||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
| ||||
Additions to property, plant and equipment |
| (509 | ) | (818 | ) |
| (1,449 | ) | (509 | ) | ||||
Acquisition, net of cash acquired |
| (619 | ) | — |
| |||||||||
Other investing activities |
| 1 |
| 21 |
| |||||||||
Acquisitions, net of cash acquired |
| (8,800 | ) | (619 | ) | |||||||||
Capitalized software development costs and other |
| (819 | ) | 1 |
| |||||||||
Net cash used in investing activities |
| (1,127 | ) | (797 | ) |
| (11,068 | ) | (1,127 | ) | ||||
|
|
|
|
|
|
|
|
|
|
| ||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
| ||||
Repurchase and exchange of common stock and Class B stock in capital stock restructuring |
| (20,860 | ) | — |
| |||||||||
Repayment of short-term borrowings |
| — |
| (4,886 | ) | |||||||||
Net proceeds from short-term borrowings |
| 3,330 |
| — |
| |||||||||
Negative cash book balance |
| 875 |
| — |
| |||||||||
Capital stock restructuring |
| — |
| (20,860 | ) | |||||||||
Repayment of note receivable from shareholder |
| 124 |
| 495 |
| |||||||||
Repurchases of common stock in the open market |
| (1,939 | ) | — |
|
| (2,525 | ) | (1,939 | ) | ||||
Repayment of note receivable from stockholder |
| 495 |
| — |
| |||||||||
Proceeds from stock option and warrant exercises |
| 826 |
| 1,238 |
| |||||||||
Proceeds from issuance of subordinated convertible note by GSE |
| — |
| 2,000 |
| |||||||||
Distribution of cash of GSE in spin-off |
| — |
| (804 | ) | |||||||||
Deferred financing costs |
| — |
| (287 | ) | |||||||||
Proceeds from issuance of common stock |
| 1,520 |
| 826 |
| |||||||||
Payments on obligations under capital leases |
| (76 | ) | (70 | ) |
| (98 | ) | (76 | ) | ||||
Net cash used in financing activities |
| (21,554 | ) | (2,809 | ) | |||||||||
Net cash provided by (used in) financing activities |
| 3,226 |
| (21,554 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|
| ||||
Effect of exchange rate changes on cash and cash equivalents |
| 17 |
| (75 | ) |
| 16 |
| 17 |
| ||||
Net increase (decrease) in cash and cash equivalents |
| (12,902 | ) | 8,090 |
| |||||||||
Net decrease in cash and cash equivalents |
| (5,998 | ) | (12,902 | ) | |||||||||
Cash and cash equivalents at beginning of period |
| 18,118 |
| 2,417 |
|
| 8,660 |
| 18,118 |
| ||||
Cash and cash equivalents at end of period |
| $ | 5,216 |
| $ | 10,507 |
|
| $ | 2,662 |
| $ | 5,216 |
|
|
|
|
|
|
|
|
|
|
|
| ||||
Non-cash investing activities: |
|
|
|
|
| |||||||||
Reduction in carrying value of Gabelli Notes upon exercise of detachable stock purchase warrants |
| $ | 418 |
| $ | — |
| |||||||
Distribution of non-cash net assets of GSE in spin-off |
| $ | — |
| $ | 5,978 |
| |||||||
Non-cash financing activity: |
|
|
|
|
| |||||||||
Reduction in carrying value of Gabelli Notes upon exercise of warrants |
| $ | 3,225 |
| $ | 418 |
| |||||||
Capital lease obligation |
| 121 |
| — |
|
See accompanying notes to condensed consolidated financial statements.
4
3
GP STRATEGIES CORPORATION AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2006
2007
(Unaudited)
(1) Basis of Presentation
GP Strategies Corporation (the “Company”) was incorporated in Delaware in 1959. The Company’s business consists of its training, engineering, and consulting business operated by its wholly owned subsidiary, General Physics Corporation (“General Physics” or “GP”). General Physics is a workforce development company that seeks to improve the effectiveness of organizations by providing training, and e-Learning solutions, management consulting, e-learning solutions and engineering services that are customized to meet the specific needs of clients.
On September 30, 2005,January 23, 2007, General Physics completed the Company completedacquisition of certain operating assets and the business of Sandy Corporation (“Sandy”), a taxable spin-offleader in custom product sales training and part of its 57% interest in GSE Systems,the ADP Dealer Services division of ADP, Inc. (“GSE”ADP”) through a dividend. Sandy, which is run as an unincorporated division of General Physics, offers custom sales training and print-based and electronic publications primarily to the Company’s stockholders. GSE isautomotive industry. See notes 3, 4 and 11 for further details.
On June 1, 2007, General Physics, through its wholly owned subsidiary, General Physics (UK) Ltd. (“GPUK”), completed the acquisition of Smallpeice Enterprises Ltd. (“SEL”), a stand alone public company which provides simulation solutionsprovider of business improvement and services to energy, processtechnical and manufacturing industries worldwide. On September 30, 2005, stockholders receivedmanagement training services in the spin-off 0.283075 sharesUnited Kingdom. See note 3 for further details. The results of GSE common stock for each share of the Company’s Common Stock or Class B Capital Stock (“Class B Stock”) held on the record date of September 19, 2005. Following the spin-off, the Company ceased to have any ownership interest in GSE and theSEL’s operations of GSE are presented as discontinuedincluded in the Company’s condensed consolidated financial statements of operations for the prior periods presented. The Company continues to provide corporate support services to GSE pursuant toperiod beginning June 1, 2007.
Effective October 1, 2007, General Physics acquired Via Training, LLC (Via), a management services agreement which extends through December 31, 2006 (see Note 10).custom e-learning sales training company, for a purchase price of $1,800,000 in cash paid at closing. See note 3 for further details.
The accompanying condensed consolidated balance sheet of the Company as of September 30, 2006,2007, the condensed consolidated statements of operations for the three and nine months ended September 30, 20062007 and 2005,2006, and the condensed consolidated statements of cash flows for the nine months ended September 30, 20062007 and 20052006 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 Company’s audited consolidated financial statements for the year ended December 31, 2005,2006, as presented in our Annual Report on Form 10-K dated March 16,for the fiscal year ended December 31, 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 the 20062007 interim period are not necessarily indicative of results to be expected for the entire year. During the nine months ended September 30, 2006, the Company reflected $0.4 million of equity in earnings of a joint venture within other income. In 2005, this amount was reflected in revenue. During the nine months ended September 30, 2005, $0.2 million was reflected in revenue related to this joint venture. Certain other amounts in 20052006 have been reclassified to conform with the presentation for 2006.2007.
The condensed consolidated financial statements include the operations of the Company and its subsidiaries. All significant intercompany balances and transactions have been eliminated.
(2) Earnings Per Share
Basic earnings per common share (EPS) is computed by dividing earningsnet income by the weighted average number of common shares outstanding during the periods. Diluted EPS reflects the potential dilution of common stock equivalent shares that could occur if securities or other contracts to issue common stock were exercised or converted into common stock.
4
The Company’s dilutive common stock equivalent shares consist of stock options, non-vestedrestricted stock units, and warrants to purchase shares of common stock computed under the treasury stock method, using the average market price during the period. The following table presents instruments which were not dilutive and were excluded from the computation of diluted EPS in each period, as well as the dilutive common stock equivalent shares which were included in the computation of diluted EPS:
| Three Months Ended |
| Nine Months Ended |
| |||||
|
| September 30, |
| September 30, |
| ||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
|
|
| (In thousands) |
| ||||||
Non-dilutive instruments |
| 577 |
| 574 |
| 578 |
| 574 |
|
|
|
|
|
|
|
|
|
|
|
Dilutive common stock equivalents |
| 898 |
| 731 |
| 903 |
| 811 |
|
|
| Three months ended |
| Nine months ended |
| ||||
|
| September 30, |
| September 30, |
| ||||
|
| 2007 |
| 2006 |
| 2007 |
| 2006 |
|
|
| (In thousands) |
| ||||||
Non-dilutive instruments |
| 1,382 |
| 577 |
| 853 |
| 578 |
|
|
|
|
|
|
|
|
|
|
|
Dilutive common stock equivalents |
| 480 |
| 898 |
| 576 |
| 903 |
|
(3)Stock-Based Compensation Acquisitions
Accounting Standard AdoptedSandy Corporation
On January 23, 2007, General Physics completed the acquisition of Sandy, a leader in custom product sales training and part of the ADP Dealer Services division of ADP. Sandy, which is run as an unincorporated division of General Physics, offers custom sales training and print-based and electronic publications primarily to the automotive industry. General Physics acquired certain assets and the business of Sandy for a purchase price of $4,393,000 cash paid to ADP from cash on hand and the assumption of certain liabilities to complete contracts. In December 2004,addition, General Physics may be required to make payments of up to an additional $8,000,000, contingent upon Sandy achieving certain revenue targets, as defined in the Financial Accounting Standards Board (FASB) issuedpurchase agreement, during the two twelve-month periods following completion of the acquisition. In connection with the acquisition and in accordance with Statement of Financial Accounting StandardStandards (SFAS) No. 141, Business Combinations, the Company recorded $679,000 of goodwill, representing the excess of the purchase price over the net tangible and intangible assets. Sandy is reported as a separate business segment and the results of its operations have been included in the condensed consolidated financial statements since the date of acquisition.
The purchase price consisted of the following (in thousands):
Cash purchase price |
| $ | 4,393 |
|
Acquisition costs |
| 964 |
| |
Total purchase price |
| $ | 5,357 |
|
The Company’s preliminary purchase price allocation for the net assets acquired is as follows (in thousands):
5
Inventory |
| $ | 783 |
|
Prepaid expenses and other current assets |
| 67 |
| |
Property, plant and equipment |
| 134 |
| |
Amortizable intangible assets |
| 6,006 |
| |
Goodwill |
| 679 |
| |
Total assets |
| 7,669 |
| |
Accounts payable, accrued expenses and other liabilities |
| 1,004 |
| |
Billings in excess of costs and estimated earnings on uncompleted contracts |
| 1,308 |
| |
Total liabilities assumed |
| 2,312 |
| |
|
|
|
| |
Net assets acquired |
| $ | 5,357 |
|
The Company recorded customer-related intangible assets as a result of the acquisition, which included $4,701,000 relating to customer lists and relationships acquired with an estimated useful life of 12 years, and $1,305,000 relating to contract backlog for future services under firm contracts to be amortized over 14 months subsequent to the acquisition in proportion to the amount of related backlog to be recognized in revenue. During the three and nine months ended September 30, 2007, the Company recognized $375,000 and $1,301,000 of amortization expense for these intangible assets, respectively. The amortization related to the contract backlog intangible asset totaled $277,000 and $1,040,000 for the three and nine months ended September 30, 2007, respectively, and the amortization related to the customer lists and relationships intangible asset totaled $98,000 and $261,000 for the three and nine months ended September 30, 2007, respectively.
The following unaudited pro forma condensed consolidated results of operations assume that the acquisition of Sandy was completed as of January 1 for each of the interim periods shown below:
|
| Nine months ended |
| ||||
|
| September 30, |
| ||||
|
| 2007 |
| 2006 |
| ||
|
| (In thousands, except per share amounts) |
| ||||
Revenue |
| $ | 181,986 |
| $ | 184,956 |
|
Net income |
| 7,035 |
| 6,320 |
| ||
Basic earnings per share |
| 0.42 |
| 0.38 |
| ||
Diluted earnings per share |
| 0.41 |
| 0.36 |
| ||
The pro forma data above may not be indicative of the results that would have been obtained had the acquisition actually been completed at the beginning of the periods presented, nor is it intended to be a projection of future results.
6
Smallpeice Enterprises Ltd. (SEL)
On June 1, 2007, General Physics, through its wholly owned GPUK subsidiary, completed the acquisition of SEL, a provider of business improvement and technical and management training services in the United Kingdom. GPUK acquired 100% ownership of SEL for a purchase price of approximately $3.3 million in cash, after a post-closing adjustment based on actual net assets, and incurred approximately $0.2 million of acquisition costs. In addition, General Physics may be required to pay the seller up to an additional $1.8 million, contingent upon SEL achieving certain earnings targets, as defined in the purchase agreement, during the one-year period following completion of the acquisition. SEL is included in the Company’s Manufacturing & BPO segment and its results of operations are included in the condensed consolidated financial statements since the date of the acquisition. The pro-forma impact of the SEL acquisition is not material to the Company’s results of operations for the three and nine months ended September 30, 2007.
The Company’s preliminary purchase price allocation for the net assets acquired is as follows (in thousands):
Cash |
| $ | 30 |
|
Accounts receivable and other current assets |
| 1,275 |
| |
Property, plant and equipment |
| 172 |
| |
Goodwill and intangible assets |
| 2,866 |
| |
Total assets |
| 4,343 |
| |
Accounts payable, accrued expenses and other liabilities |
| 712 |
| |
Billings in excess of costs and estimated earnings on uncompleted contracts |
| 158 |
| |
Total liabilities assumed |
| 870 |
| |
|
|
|
| |
Net assets acquired |
| $ | 3,473 |
|
Via Training, LLC
Effective October 1, 2007, General Physics acquired Via, a custom e-learning sales training company, for a purchase price of $1,800,000 in cash paid at closing. In addition, General Physics may be required to pay up to an additional $3,250,000, contingent upon Via achieving certain earnings targets during the two twelve-month periods following the completion of the acquisition. Via will be included in the Company’s Manufacturing & BPO segment and its results of operations will be included in its consolidated financial statements effective October 1, 2007.
7
(4) Inventory
Sandy produces brand specific glovebox portfolios, brochures and accessory kits for its customers, which are installed in new cars and trucks at the time of vehicle assembly. Sandy designs these items and outsources their manufacture to suppliers that provide the raw materials, bind and/or sew the portfolio, assemble its contents, and ship the finished product to its customers’ assembly plants. Although the inventory is kept at third party suppliers, the Company has title to the inventory and bears the risk of loss. As of September 30, 2007, the Company had inventory of $737,000, which primarily consisted of raw materials for the glovebox portfolios, brochures and accessory kits.
(5) Stock-Based Compensation
The Company accounts for its stock-based compensation awards under SFAS No. 123R, Share-Based Payment (SFAS No. 123R), which revises SFAS No. 123, Accounting for Stock-Based Compensation (SFAS No. 123), and supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB No. 25), and requires companies to recognize compensation expense for all equity-based compensation awards issued to employees that are expected to vest. The Company adopted SFAS No. 123R on January 1, 2006, using the Modified Prospective Application method without restatement of 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 determinesof the fair value of and accounts for awards that are granted, modified, or settled after January 1, 2006 in accordance with SFAS No. 123R.grant date.
The following table presentssummarizes the impact of SFAS No. 123R on income from continuing operations before income taxpre-tax stock-based compensation expense included in reported net income cash flows from operating and financing activities, and basic and diluted earnings per share:(in thousands):
| Three Months Ended |
| Nine Months Ended |
| |||||||||
| As Reported |
| Pro-Forma |
| As Reported |
| Pro-Forma |
| |||||
|
| (In thousands, except per share data) |
| ||||||||||
Income from continuing operations before income tax expense |
| $ | 2,887 |
| $ | 2,900 |
| $ | 8,329 |
| $ | 8,481 |
|
|
|
|
|
|
|
|
|
|
| ||||
Net income |
| 1,747 |
| 1,755 |
| 4,861 |
| 4,952 |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Net cash provided by operating activities |
| 3,093 |
| 3,093 |
| 9,762 |
| 9,762 |
| ||||
Net cash provided by (used in) financing activities |
| 69 |
| 69 |
| (21,554 | ) | (21,554 | ) | ||||
|
|
|
|
|
|
|
|
|
| ||||
Earnings per share - basic |
| 0.11 |
| 0.11 |
| 0.29 |
| 0.30 |
| ||||
Earnings per share - diluted |
| 0.11 |
| 0.11 |
| 0.28 |
| 0.28 |
| ||||
|
| Three months ended September 30, |
| Nine months ended September 30, |
| ||||||||
|
| 2007 |
| 2006 |
| 2007 |
| 2006 |
| ||||
Non-qualified stock options |
| $ | 119 |
| $ | 13 |
| $ | 147 |
| $ | 152 |
|
Restricted stock units |
| 99 |
| 66 |
| 273 |
| 225 |
| ||||
Board of Director stock grants |
| 12 |
| 11 |
| 58 |
| 23 |
| ||||
Total stock-based compensation expense (pre-tax) |
| $ | 230 |
| $ | 90 |
| $ | 478 |
| $ | 400 |
|
Stock-Based Compensation Plans
Pursuant to the Company’s 1973 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 and/or in shares of the Company’s Common Stockcommon 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 on 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.
The following table summarizes the stock-based compensation expense included in reported net income under the fair value method in accordance with SFAS No. 123R (in thousands):
| Three months ended |
| Nine months ended |
| |||
|
| September 30, |
| September 30, |
| ||
|
| 2006 |
| 2006 |
| ||
Cost of revenue |
| $ | 50 |
| $ | 260 |
|
Selling, general and administrative expenses |
| 40 |
| 140 |
| ||
Total stock-based compensation expense (pre-tax) |
| $ | 90 |
| $ | 400 |
|
Total compensation expense shown in the table above is comprised of the following (in thousands):
| Three months ended |
| Nine months ended |
| |||
|
| September 30, |
| September 30, |
| ||
|
| 2006 |
| 2006 |
| ||
Non-qualified stock options |
| $ | 13 |
| $ | 152 |
|
Non-vested stock units |
| 66 |
| 225 |
| ||
Board of Director stock grants |
| 11 |
| 23 |
| ||
Total stock-based compensation expense (pre-tax) |
| $ | 90 |
| $ | 400 |
|
During the three and nine months ended September 30, 2006, the Company recognized a deferred income tax benefit of $32,000 and $151,000, respectively, associated with the compensation expense recognized for these awards. As of September 30, 2006,2007, the Company had non-qualified stock options, restricted stock, and non-vestedrestricted stock units outstanding under these plans as discussed below.
8
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, vest over a period up to ten years, and expire at various terms up to ten years from the date of grant.
Summarized information for the Company’s non-qualified stock options is as follows:
|
|
|
|
| Weighted |
|
|
| |||
|
|
|
|
|
| average |
|
|
| ||
|
|
|
| Weighted |
| remaining |
| Aggregate |
| ||
|
| Number of |
| average |
| contractual |
| intrinsic |
| ||
Stock Options |
| options |
| exercise price |
| term |
| value |
| ||
Outstanding at December 31, 2005 |
| 1,411,345 |
| $ | 4.83 |
|
|
|
|
| |
Granted |
| — |
|
|
|
|
|
|
| ||
Exercised |
| (139,569 | ) | 4.96 |
|
|
|
|
| ||
Forfeited/expired |
| (26,729 | ) | 4.89 |
|
|
|
|
| ||
Outstanding and expected to vest at September 30, 2006 |
| 1,245,047 |
| $ | 4.81 |
| 1.23 |
| $ | 3,380,000 |
|
Exercisable at September 30, 2006 |
| 1,235,406 |
| $ | 4.79 |
| 1.23 |
| $ | 3,365,000 |
|
|
|
|
|
|
| Weighted |
|
|
| ||
|
|
|
| Weighted |
| average |
| Aggregate |
| ||
|
| Number of |
| average |
| remaining |
| intrinsic |
| ||
Stock Options |
| options |
| exercise price |
| years |
| value |
| ||
Outstanding at December 31, 2006 |
| 572,108 |
| $ | 5.48 |
|
|
|
|
| |
Granted |
| 880,000 |
| 11.08 |
|
|
|
|
| ||
Exercised |
| (346,366 | ) | 5.53 |
|
|
|
|
| ||
Cancelled/expired |
| (27,551 | ) | 5.75 |
|
|
|
|
| ||
Outstanding at September 30, 2007 |
| 1,078,191 |
| 10.03 |
| 5.11 |
| $ | 1,121,000 |
| |
Exercisable at September 30, 2007 |
| 198,191 |
| 5.36 |
| 2.31 |
| $ | 1,121,000 |
| |
The total intrinsic value realized by participants onDuring the second quarter of 2007, the Company granted 880,000 non-qualified stock options exercised was $106,000to certain key management personnel. The options have an exercise price of $11.08, vest over five years on a graded vesting schedule, and $253,000have a contractual term of six years. The per share fair value of the Company’s stock options granted during the three months ended September 30, 2006 and 2005, respectively, and $356,000 and $1,015,000 forsecond quarter of 2007 was $3.14 on the nine months ended September 30, 2006 and 2005, respectively. The Company did not realize a tax benefit related to these stockdate of grant using the Black-Scholes Merton option exercises due topricing model with the existence of net operating loss carryforwards in these periods. In addition, the Company received cash for the exercise price associated with stock options exercised of $269,000 and $394,000 during the three months ended September 30, 2006 and 2005, respectively, and $686,000 and $1,238,000 during the nine months ended September 30, 2006 and 2005, respectively. following assumptions:
Nine months ended | |||
September 30, 2007 | |||
Expected term | 4.75 years | ||
Expected stock price volatility | 22.1 | % | |
Risk-free interest rate | 4.99 | % | |
Expected dividend yield | — | % |
As of September 30, 2006,2007, the Company had $34,000approximately $2,223,000 of unrecognized compensation cost related to the unvested portion of outstanding stock options expected to be recognized through July 2007.on a straight-line basis over the remaining service period of approximately 4.7 years.
During the second quarter of 2007, the Company’s President exercised 47,887 outstanding and exercisable stock options and paid the exercise price of the options by having the Company withhold shares of common stock (valued based upon the market value of the Company’s stock on the exercise date) that would otherwise be issued to him upon exercise of the stock options.
Non-vestedRestricted Stock Units
In addition to stock options, the Company issues non-vestedrestricted stock units to key employees and members of the Board of Directors based on meeting certain service goals. The stock units vest to the recipients at various dates, up to five years, based on fulfilling service requirements. In accordance with SFAS No. 123R, the Company recognizes the value of the underlying stock on the date of grant to compensation expense over the requisite service period. Upon vesting, the stock units are settled in shares of the
9
Company’s Common Stock.common stock. Summarized share information for the Company’s non-vestedrestricted stock units is as follows:
|
|
| Weighted |
|
|
|
| Weighted |
| |||
|
| Nine months ended |
| average |
|
| Nine months ended |
| average |
| ||
|
| September 30, |
| grant date |
|
| September 30, |
| grant date |
| ||
|
| 2006 |
| fair value |
|
| 2007 |
| fair value |
| ||
|
| (In shares) |
| (In dollars) |
|
| (In shares) |
| (In dollars) |
| ||
Outstanding and unvested, beginning of period |
| 182,000 |
| $ | 7.54 |
| ||||||
Outstanding and unvested, December 31, 2006 |
| 181,000 |
| $ | 7.53 |
| ||||||
Granted |
| 14,000 |
| 7.42 |
|
| 74,000 |
| 8.96 |
| ||
Vested |
| — |
| — |
|
| (75,400 | ) | 7.52 |
| ||
Forfeited |
| (3,000 | ) | 7.54 |
|
| (16,400 | ) | 7.97 |
| ||
Outstanding and unvested, end of period |
| 193,000 |
| $ | 7.53 |
| ||||||
Outstanding and unvested, September 30, 2007 |
| 163,200 |
| $ | 8.14 |
|
AsDuring the first quarter of September 30, 2006,2007, the Company had unrecognized compensation cost of $923,000 related to the unvested portion of its outstandinggranted 74,000 restricted stock units expected to be recognizedkey employees in connection with the acquisition of Sandy. The awards had a grant date fair value of $8.96, and vest over a weighted average remaining service period of 3.2 years.
Pro-Forma Information
The following table presents the pro-forma effect on net income and earnings per share for all outstanding stock-based compensation awards for the three and nine months ended September 30, 2005 in which the fair value provisions of SFAS No. 123R were not in effect (dollars in thousands, except per share data):
| Three months ended |
| Nine months ended |
| |||
|
| September 30, |
| September 30, |
| ||
|
| 2005 |
| 2005 |
| ||
Net income – as reported |
| $ | 1,042 |
| $ | 2,730 |
|
Add: stock-based compensation expense determined under intrinsic value method and included in reported net income, net of tax |
| 90 |
| 125 |
| ||
Deduct: stock-based compensation expense determined under the fair-value-based method for all awards, net of tax |
| (140 | ) | (310 | ) | ||
Pro forma net income |
| $ | 992 |
| $ | 2,545 |
|
|
|
|
|
|
| ||
Net income per share: |
|
|
|
|
| ||
Basic – as reported |
| $ | 0.06 |
| $ | 0.15 |
|
Basic – pro forma |
| $ | 0.05 |
| $ | 0.14 |
|
Diluted – as reported |
| $ | 0.05 |
| $ | 0.14 |
|
Diluted – pro forma |
| $ | 0.05 |
| $ | 0.13 |
|
The per share weighted average fair value of the Company’s stock options granted during the nine months ended September 30, 2005 was $3.35 on4.4 years from the date of grant using the Black-Scholes option pricing modelgrant.
with the following weighted average assumptions:
| |||
| |||
| |||
| |||
|
|
| |
|
|
| |
|
|
| |
|
|
The Company estimates the fair value of its stock options on the date of grant using the Black-Scholes option pricing model. The Company estimates the expected term 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 the nine months ended September 30, 2006.
(4)(6) Short-Term Borrowings
General Physics has a $25 million Financing and Security Agreement, as amended on August 6, 2007 (the ”Credit Agreement”), as amended, with a bank that expires on August 12, 200731, 2009 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 Company continued to guarantee GSE’s borrowings under
The maximum interest rate on the Credit Agreement (for which $1,500,000 was allocated for use by GSE) subsequent to the spin-off on September 30, 2005. In March 2006, GSE repaid its borrowings in full and ceased to be a borrower under the Credit Agreement. As a result, the Company’s guarantee of GSE’s borrowings was terminated.
The interest rate under the Credit Agreement is at the daily LIBOR market index rate plus 3.0%2.75%. Based upon the financial performance of General Physics, the interest rate can be reduced. As of September 30, 2006,2007, the rate was daily LIBOR plus 2.5%2.50%, which resulted in a rate of approximately 7.8%7.9%. The Credit Agreement contains covenants with respect to General Physics’ minimum tangible net worth, total liabilities ratio, 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 September 30, 2006. The Credit Agreement also contains certain restrictive covenants regarding future acquisitions, incurrence of debt and the payment of dividends. General Physics was in compliance with all loan covenants under the amended Credit Agreement as of September 30, 2007. In addition, 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 bythat the lender whichamended Credit Agreement permits General Physics to provide up to $10 million of cash to the Company to repurchase up to $5 million of additional shares of its outstanding Common Stock (see Note 7).common stock in the open market.
As of September 30, 2006,2007, General Physics had no$3,330,000 of outstanding borrowings under the Credit Agreement and there was approximately $20,527,000$21,500,000 of additional borrowings available borrowings based upon 80% of eligible accounts receivable and 80% of eligible unbilled receivables. As of December 31, 2006, General Physics had no borrowings outstanding under the Credit Agreement.
10
(5)(7) Long-Term Debt
Long-term debt consists of the following (in thousands):
| September 30, |
| December 31, |
| |||
|
| 2006 |
| 2005 |
| ||
6% conditional subordinated notes due 2008 (a) |
| $ | 7,000 |
| $ | 7,500 |
|
ManTech Note (b) |
| 5,251 |
| 5,251 |
| ||
Capital lease obligations |
| 69 |
| 93 |
| ||
|
| 12,320 |
| 12,844 |
| ||
Less warrant related discount, net of accretion |
| (1,025 | ) | (1,464 | ) | ||
|
| 11,295 |
| 11,380 |
| ||
Less current maturities |
| (35 | ) | (71 | ) | ||
|
| $ | 11,260 |
| $ | 11,309 |
|
|
| September 30, |
| December 31, |
| ||
|
| 2007 |
| 2006 |
| ||
6% conditional subordinated notes due 2008 (a) |
| $ | 2,885 |
| $ | 6,483 |
|
ManTech Note (b) |
| 5,251 |
| 5,251 |
| ||
Capital lease obligations |
| 51 |
| 30 |
| ||
|
| 8,187 |
| 11,764 |
| ||
Less warrant related discount, net of accretion |
| (207 | ) | (838 | ) | ||
|
| 7,980 |
| 10,926 |
| ||
Less current maturities |
| (2,729 | ) | (30 | ) | ||
|
| $ | 5,251 |
| $ | 10,896 |
|
(a) In August 2003, the Company issued and sold to four Gabelli Funds $7,500,000 aggregate principal amount of 6% Conditional Subordinated Notes due 2008 (the 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 $7,500,000.
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’s former property located in Pawling, New York which was distributed to 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 Notes is 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.
Subsequent to the spin-off of NPDC in 2004 and GSE Systems, Inc. (GSE) in 2005, 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 Warrantswarrants 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. During the nine monthsyear ended September 30,December 31, 2006, Gabelli exercised 109,376197,823 GP Warrants for a total exercise price of $640,000$1,157,000 which was paid in the form of $140,000 cash and delivery of $500,000$1,017,000 of the Gabelli Notes.Notes and accrued interest thereon. During the nine months ended September 30, 2007, Gabelli exercised 624,862 GP Warrants for a total exercise price of $3,655,000, which was paid in the form of delivery of the Gabelli Notes and
11
accrued interest thereon. As of September 30, 2006,2007, there were 874,740161,431 GP Warrants with an exercise price of $5.85 per share outstanding and exercisable.
The fair value of the GP Warrants at the date of issuance was $2,389,000, which reduced long-term debt in the accompanying condensed consolidated balance sheets 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 $119,000$57,000 and $110,000$119,000 for the three months ended September 30, 20062007 and 2005,2006, respectively, and approximately $357,000$200,000 and $316,000$357,000 for the nine months ended September 30, 2007 and 2006, and 2005, respectively. The exercises of the GP Warrants during the nine months ended September 30, 2007 resulted in a decrease of $3,225,000 in the carrying value of the Gabelli Notes, which was reclassified to equity to reflect the issuance of shares of common stock upon exercise.
(b) In October 2003, the Company issued a five-year 5% note due in full in October 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 into Common Stockcommon stock of the Company at the then market price of the Company’s Common Stock,common stock, but only in the event that the Company’s Common Stockcommon stock is trading at $10 per share or more. In the event that less than 20% of the principal amount of the note is not converted in any year, such amount not converted will be eligible for conversion in each subsequent year until converted or until the note is repaid in cash.
12
(6)(8) Stockholders’ Equity
Changes in stockholders’ equity during the nine months ended September 30, 2007 were as follows (in thousands):
|
|
|
|
|
|
|
|
|
| Accumulated |
| Note |
|
|
| |||||||
|
| Common |
| Additional |
|
|
| Treasury |
| other |
| receivable |
| Total |
| |||||||
|
| stock |
| paid-in |
| Accumulated |
| stock |
| comprehensive |
| from |
| stockholders’ |
| |||||||
|
| ($ 0.01 par) |
| capital |
| deficit |
| at cost |
| loss |
| stockholder |
| equity |
| |||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||
Balance at December 31, 2006 |
| $ | 178 |
| $ | 159,042 |
| $ | (65,558 | ) | $ | (13,167 | ) | $ | (640 | ) | $ | (124 | ) | $ | 79,731 |
|
Net income |
| — |
| — |
| 6,945 |
| — |
| — |
| — |
| 6,945 |
| |||||||
Other comprehensive income |
| — |
| — |
| — |
| — |
| 259 |
| — |
| 259 |
| |||||||
Repayment of note receivable from stock holder |
| — |
| — |
| — |
| — |
| — |
| 124 |
| 124 |
| |||||||
Repurchases of common stock |
| — |
| — |
| — |
| (2,525 | ) | — |
| — |
| (2,525 | ) | |||||||
Stock-based compensation expense |
| — |
| 465 |
| — |
| 13 |
| — |
| — |
| 478 |
| |||||||
Exercise of warrants by Gabelli |
| — |
| (1,124 | ) | — |
| 4,349 |
| — |
| — |
| 3,225 |
| |||||||
Cumulative effect adjustment upon adoption of FIN No. 48 |
| — |
| — |
| (98 | ) | — |
| — |
| — |
| (98 | ) | |||||||
Net issuances of treasury stock / other |
| — |
| (947 | ) | — |
| 3,430 |
| — |
| — |
| 2,483 |
| |||||||
Balance at September 30, 2007 |
| $ | 178 |
| $ | 157,436 |
| $ | (58,711 | ) | $ | (7,900 | ) | $ | (381 | ) | $ | — |
| $ | 90,622 |
|
13
(9) Comprehensive Income
The following are the components of comprehensive income (in thousands):
| Three months ended |
| Nine months ended |
| |||||||||
|
| September 30, |
| September 30, |
| ||||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
| ||||
Net income |
| $ | 1,747 |
| $ | 1,042 |
| $ | 4,861 |
| $ | 2,730 |
|
Other comprehensive income (loss), net of income taxes |
| 123 |
| (304 | ) | 256 |
| (399 | ) | ||||
Comprehensive income, net of tax |
| $ | 1,870 |
| $ | 738 |
| $ | 5,117 |
| $ | 2,331 |
|
|
| Three months ended |
| Nine months ended |
| ||||||||
|
| September 30, |
| September 30, |
| ||||||||
|
| 2007 |
| 2006 |
| 2007 |
| 2006 |
| ||||
Net income |
| $ | 2,544 |
| $ | 1,747 |
| $ | 6,945 |
| $ | 4,861 |
|
Other comprehensive income |
| 155 |
| 123 |
| 259 |
| 256 |
| ||||
Comprehensive income |
| $ | 2,699 |
| $ | 1,870 |
| $ | 7,204 |
| $ | 5,117 |
|
As of September 30, 20062007 and December 31, 2005,2006, accumulated other comprehensive loss net of tax, was $831,000$381,000 and $1,087,000,$640,000, respectively, andwhich consisted primarily of foreign currency translation adjustments.
(7)(10) Capital Stock RestructuringIncome Taxes
On January 19,
In July 2006, the Company completedFinancial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes – an Interpretation of FASB Statement No. 109 (FIN No. 48). FIN No. 48 prescribes a restructuring of its capital stock, which includedrecognition threshold and measurement attribute for 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 paymentfinancial statement recognition of a cash premium of $1.50 per exchanged share. The repurchase prices and exchange premium weretax position taken or expected to be taken on a tax return. Under FIN No. 48, a tax benefit from an uncertain tax position may be recognized only if it is “more likely than not” that the position is sustainable upon examination, based on its technical merits. The tax benefit of a fairness opinion renderedqualifying position under FIN No. 48 would equal the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information. FIN No. 48 was effective as of January 1, 2007 for calendar-year companies. In applying the new accounting model prescribed by an independent third party valuation firm. The repurchaseFIN No. 48, the Company was required to determine and exchange transactions were negotiated and approved by a Special Committeeassess all material positions existing as of the Boardadoption date, including all significant uncertain positions, in all tax years, that were still subject to assessment or challenge under relevant tax statutes.
Upon adoption on January 1, 2007, the Company recorded a net decrease of Directors$98,000 to accumulated deficit to reflect the cumulative effect adjustment for FIN No. 48. As of January 1, 2007, the Company had $2,218,000 of unrecognized tax benefits, all of which would impact the effective tax rate if recognized. The Company recognizes interest and penalties related to unrecognized tax benefits as a component of income tax expense. As of January 1, 2007, the Company had no accrued interest or penalties. The Company and its subsidiaries file income tax returns in the effect of eliminating all outstanding shares ofU.S. federal jurisdiction, and various state and foreign jurisdictions. With few exceptions, the Company’s Class B Stock. The repurchaseCompany is no longer subject to U.S. federal, state and exchange was financed with approximately $20.3 million of cash on hand.local, or non-U.S. income tax examination by tax authorities for years prior to 2002.
(11) Business Segments
Prior to the restructuring, the 1,200,000 outstanding sharesacquisition of Class B Stock collectively represented approximately 41% of the aggregate voting power ofSandy on January 23, 2007, the Company since the Class B Stock had ten votes per share. The repurchase of a total of 2,721,500 shares represented approximately 15% of the total outstanding shares of capital stock of the Company. Of the 600,000 Class B shares exchanged for common shares, 568,750 shares were owned by the Chairman of the Executive Committee of the Company.
In connection with the repurchase and exchange transactions, the Board of Directors of 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. General Physics’ lender has permitted General Physics to utilize funds borrowed under the Credit Agreement to provide cash to the Company to repurchase up to $5 million of additional shares of the Company’s outstanding Common Stock (see Note 4). During the three and nine months ended September 30, 2006, the Company repurchased 38,000 and 276,000 shares, respectively, of its Common Stock in the open market for a total cost of approximately $277,000 and $1,939,000, respectively.
(8) Business Segments
The Company has two reportable business segments:segments. Subsequent to the acquisition, Sandy is being run as an unincorporated operating group of General Physics. The Company determined that the operations of Sandy constitute a separate reportable business segment and its results of operations are included in the Sandy Sales Training & Marketing segment since
14
the effective date of the acquisition. As of September 30, 2007, the Company’s three reportable business segments are: 1) Process, Energy & Government; and 2) Manufacturing & Business Process Outsourcing (BPO).; and 3) Sandy Sales Training & Marketing. The Company is organized by operating group primarily based upon the services performed and markets served by each group.group and the services performed. The reportable businessProcess, Energy & Government and Manufacturing & BPO segments represent an aggregation of the Company’s operating segments in accordance with the aggregation criteria in SFAS No. 131,Disclosures about Segments of an Enterprise and Related Information.(SFAS No. 131), and the Sandy Sales Training & Marketing segment represents one operating segment as defined in SFAS No. 131. Below is a description of each of the Company’s reportable business segments.
The
• Process, Energy & Government — this segment primarily serves federal and state governmental agencies, large government contractors, petroleum and chemical refining companies, and electric power utilities and 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.services.
The
• Manufacturing & BPO – this segment primarily serves large companies in the automotive, steel, pharmaceutical, electronics, and other industries as well as certain governmental clients and provides training, curriculum design and development, staff augmentation, e-Learninge-learning services, system hosting, integration and help desk support, trainingbusiness process and business processtraining outsourcing, and consulting and technical servicesservices.
• Sandy Sales Training & Marketing – this segment provides custom sales training and print-based and electronic publications primarily to large companies in the automotive pharmaceutical, electronics, and other industries as well as to governmental clients.industry.
GSE ceased to be a reportable business 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. The Company recorded revenues for services provided to GSE primarily pursuant to the management services agreement (see Note 10) of $152,000 and $196,000 for the three months ended September 30, 2006 and 2005, respectively, and $453,000 and $525,000 for the nine months ended September 30, 2006 and 2005, 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 statements of operations for the three and nine months ended September 30, 2005.
For the nine months ended September 30, 20062007 and 2005,2006, sales to the United States government and its agencies represented approximately 30%18% and 40%30%, respectively, of the Company’s revenue. Revenue from the Department of the Army, which is included in the Process, Energy & Government segment, accounted for approximately 13%9% and 22%13% of the Company’s revenue for the nine months ended September 30, 2007 and 2006, respectively.
As a result of the acquisition of Sandy, the Company has a concentration of revenue from General Motors Corporation and 2005, respectively. No other customerits affiliates (“General Motors”) as well as a market concentration in the automotive sector. Revenue from General Motors accounted for greater than 10%approximately 21% of the Company’s revenue for the nine months ended September 30, 2006.2007, and revenue from the automotive industry accounted for approximately 30% of the Company’s revenue for the nine months ended September 30, 2007.
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.
15
The following table setstables set forth the revenue and operating income of each of the Company’s operating segments and includes a reconciliation of segment revenue to consolidated revenue and operating income to consolidated income from continuing operations before income tax expense (in thousands):
| Three months ended |
| Nine months ended |
|
| Three months ended |
| Nine months ended |
| |||||||||||||||||
|
| September 30, |
| September 30, |
|
| September 30, |
| September 30, |
| ||||||||||||||||
|
| 2006 |
| 2005 |
| 2006 |
| 2005 |
|
| 2007 |
| 2006 |
| 2007 |
| 2006 |
| ||||||||
Revenue: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||
|
|
|
|
|
|
|
|
|
| |||||||||||||||||
Process, Energy & Government |
| $ | 18,910 |
| $ | 22,208 |
| $ | 57,821 |
| $ | 64,328 |
|
| $ | 18,882 |
| $ | 18,910 |
| $ | 52,400 |
| $ | 57,821 |
|
Manufacturing & BPO |
| 25,141 |
| 21,851 |
| 75,537 |
| 66,950 |
|
| 27,055 |
| 25,141 |
| 80,181 |
| 75,537 |
| ||||||||
Sandy Sales Training & Marketing |
| 14,900 |
| — |
| 45,457 |
| — |
| |||||||||||||||||
|
| $ | 44,051 |
| $ | 44,059 |
| $ | 133,358 |
| $ | 131,278 |
|
| $ | 60,837 |
| $ | 44,051 |
| $ | 178,038 |
| $ | 133,358 |
|
Operating income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||
|
|
|
|
|
|
|
|
|
| |||||||||||||||||
Process, Energy & Government |
| $ | 2,055 |
| $ | 2,829 |
| $ | 5,450 |
| $ | 7,810 |
|
| $ | 3,132 |
| $ | 2,055 |
| $ | 7,884 |
| $ | 5,450 |
|
Manufacturing & BPO |
| 1,572 |
| 719 |
| 5,062 |
| 1,881 |
|
| 1,795 |
| 1,572 |
| 5,548 |
| 5,062 |
| ||||||||
Sandy Sales Training & Marketing* |
| (68 | ) | — |
| 221 |
| — |
| |||||||||||||||||
Corporate and other general and administrative expenses |
| (544 | ) | (920 | ) | (1,714 | ) | (2,087 | ) |
| (477 | ) | (544 | ) | (1,533 | ) | (1,714 | ) | ||||||||
|
| 3,083 |
| 2,628 |
| 8,798 |
| 7,604 |
|
| 4,382 |
| 3,083 |
| 12,120 |
| 8,798 |
| ||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||
Interest expense |
| (376 | ) | (387 | ) | (1,233 | ) | (1,129 | ) |
| (296 | ) | (376 | ) | (955 | ) | (1,233 | ) | ||||||||
Other income |
| 180 |
| 87 |
| 764 |
| 141 |
|
| 148 |
| 180 |
| 662 |
| 764 |
| ||||||||
Income from continuing operations before income tax expense |
| $ | 2,887 |
| $ | 2,328 |
| $ | 8,329 |
| $ | 6,616 |
| |||||||||||||
Income before income tax expense |
| $ | 4,234 |
| $ | 2,887 |
| $ | 11,827 |
| $ | 8,329 |
|
14
(9) Acquisition
On February 3, 2006,* Operating income for the Company completedSandy Sales Training & Marketing segment includes expense for the acquisitionamortization of Peters Management Consultancy Ltd. (PMC), a performance improvementintangible assets totaling $375,000 and training company in the United Kingdom. The Company acquired 100% ownership of PMC for a purchase price of $1,331,000 in cash, subject to a 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 the acquisition and in accordance with SFAS No. 141, Business Combinations, the Company recorded $868,000 of goodwill, representing the excess of the purchase price over the fair value of the net tangible assets acquired and $133,000 of third party acquisition costs, and $200,000 of customer-related intangible assets. 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 pro-forma impact of the PMC acquisition is not material to the Company’s results of operations$1,301,000 for the three and nine months ended September 30, 2006 and 2005.2007, respectively.
The Company’s purchase price allocation for the net assets acquired is as follows:
Cash |
| $ | 845 |
|
Accounts receivable and other current assets |
| 840 |
| |
Property, plant and equipment, net |
| 88 |
| |
Goodwill |
| 868 |
| |
Intangible assets |
| 200 |
| |
Total assets |
| 2,841 |
| |
Accounts payable, accrued expenses and other liabilities |
| 723 |
| |
Billings in excess of costs and estimated earnings on uncompleted contracts |
| 654 |
| |
Total liabilities assumed |
| 1,377 |
| |
|
|
|
| |
Net assets acquired |
| $ | 1,464 |
|
(10)(12) Related Party Transactions
Loans
As
On April 1, 2002, Jerome I. Feldman, the Company’s then Chief Executive Officer (CEO), entered into an incentive compensation agreement with the Company pursuant to which he was eligible to receive from the Company up to five payments of September 30, 2006$1,000,000 each, based on the closing price of the Company’s Common Stock sustaining or averaging increasing specified levels over periods of at least 10 consecutive trading days. On June 11, 2003, July 23, 2003, December 22, 2003, November 3, 2004 and December 10, 2004, he earned an incentive payment of $1,000,000 each. The Company recorded compensation expense of $2,000,000 and $3,000,000 for the years ended December 31, 2005,2004 and 2003, respectively, for this incentive compensation. Under the terms of the incentive compensation agreement, Mr. Feldman deferred payment of the incentive payments until May 31, 2007.
16
To the extent there were any outstanding loans from the Company to the CEO at the time an incentive payment was payable, the Company had a note receivable from the Company’s Chairmanright to off-set the payment of such incentive payment first against the Executive Committeeoutstanding accrued interest under such loans and former Chief Executive Officer of approximately $124,000next against any outstanding principal. On May 31, 2007, the Company applied the entire deferred incentive compensation earned by the CEO during 2004 and $619,000, respectively. The proceeds of2003 against the original note were used primarilyunpaid accrued interest and principal on his outstanding loans which had been issued to him previously to exercise stock options to purchase Class B Common Stock. of the Company.
The note bearsnotes bore interest at the prime rate and iswere secured by certain assets owned by him. All unpaid principal and accrued interest on the note isloans were due on May 31, 2007. In addition, asAs of DecemberMay 31, 2005,2007, the Company had other employee advances, unsecured loansnotes receivable and accrued interest from Mr. Feldman of approximately $207,000 after offsetting the $5 million deferred incentive compensation earned in 2004 and 2003, as discussed above. Mr. Feldman repaid the outstanding note receivable from him, totaling $353,000. On January 19, 2006, he repaid approximately $853,000 of $972,000 of total indebtedness (including principalbalance and interest)accrued interest owed by him to the Company
in cash during the second quarter of 2007.
using the proceeds he received from the Class B exchange transaction (see Note 7). As of September 30, 2006, the aggregate amount of indebtedness (including principal and accrued interest) outstanding under the note was $166,000.
Management Services Agreement Between NPDC and the Company
Prior to the spin-off of NPDC in 2004, 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 provideshas provided certain general corporate services to NPDC. The CompanyNPDC and has four employees, including the Chief Executive Officer and Chief Legal Officer, who provide services to NPDC under the management services agreement, for which the Company isbeen reimbursed for such services. Services under the agreement relate to executive financial services, 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 written notice, with the exception of the portion of the management fee relating to compensationnotice. The Company charged NPDC approximately $0 and $234,000 for NPDC’s Chief Executive Officer for which NPDC is liable through May 31, 2007 pursuant to his employment agreement. NPDC pays the Company an annual fee of $934,000 as compensation for these services, payable in equal monthly installments. For the three months ended September 30, 2007 and 2006, respectively, and $352,000 and $692,000 for the nine months ended September 30, 2006, the Company charged NPDC approximately $234,0002007 and $692,000,2006, respectively, for services under the management agreement, which is includedare reflected as a reductionreductions of selling, general and administrative expensesexpense in the accompanying condensed consolidated statements of operations.
NPDC continues to occupy a portion of corporate office space leased by the Company. Pursuant to the management services agreement, NPDC compensates the Company for use of this space. The Company’s lease extends through December 31, 2006.
(13) Commitments & Guarantees
Management Services Agreement Between GSE and the CompanyCommitments
Pursuant
During 2007, General Physics entered into new and/or amendments to a management services agreement, the Company provides corporate support services to GSE. GSE pays the Company an annual feeemployment agreements with certain of $685,000 for these servicesits senior and can terminate the agreement by providing sixty days written notice.executive officers. The management services agreement can be renewed by GSE upon mutual agreement for successive one-yearagreements have initial employment terms which extend through at least February 2009 (with certain extension clauses), and was renewed through December 31, 2006.contain non-compete covenants and change of control and termination provisions.
(11) Guarantees
Subsequent to the spin-off of NPDC, the Company continuescontinued to guarantee certain obligations of NPDC’s subsidiaries, Five Star Products, Inc. (“Five Star”) and MXL Industries, Inc. (“MXL”). The Company guaranteesguaranteed certain operating leases for Five Star’s New Jersey and Connecticut warehouses, totaling approximately $1,589,000 per year through March 31, 2007. The leases have been extended and now expire in the first quarter of 2007. 2009. The annual rent obligations are currently approximately $1,600,000. In connection with the spin-off of NPDC by the Company, NPDC agreed to assume the Company’s obligation under such guarantees, to use commercially reasonable efforts to cause the Company to be
17
released from each such guaranty, and to hold the Company harmless from all claims, expenses and liabilities connected with the leases or NPDC’s breach of any agreements effecting the spin-off. The Company has not received confirmation that it has been released from these guarantees. The Company does not expect to incur any material payments associated with these guarantees, and as such, no liability is reflected in the condensed consolidated balance sheet.
The Company also guarantees the repayment of onea debt obligation of MXL, which is secured by property and certain equipment of MXL. As of September 30, 2006, theThe aggregate outstanding balance of thisMXL’s debt obligation as of September 30, 2007 was $1,130,000.$1,030,000. The Company’s guarantee expires upon the maturity of the debt obligation in March 2011. The Company does not expect to incur any material payments associated with this guarantee, and as such, no liability is reflected in the condensed consolidated balance sheet.
(12)(14) Litigation
In November 2004, an arbitrator awarded the Company $12,274,000 in damages and $6,016,000 in interest in connection with the Company’s 1998 acquisition of Learning Technologies from various subsidiaries (“Systemhouse”) of MCI Communications Corporation (“MCI”) which were subsequently acquired by Electronic Data Systems Corporation (“EDS”). EDS made a payment of $18,428,000 which included post-award interest of $139,000 to satisfy its obligation under the arbitration award. The Company recognized a gain on arbitration settlement, net of legal fees and expenses of $13,660,000 in 2004. In accordance with a spin-off agreement with NPDC, the Company made an additional capital contribution to NPDC of approximately $5,000,000 of the settlement proceeds.
In November 2005, the Company settled its remaining fraud claims against Electronic Data Systems Corporation (EDS)EDS and Systemhouse in connection with the Company’s 1998 acquisition of Learning Technologies. Pursuant to the settlement, EDS made a cash 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, the Company made an additional capital contribution to NPDC forof 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 due from NPDC against the payable to NPDC (see Note 10). As of September 30, 2006, the Company has a remaining payable to NPDC of $476,000 for this additional capital contribution, which is included in accounts payable and accrued expenses on the condensed consolidated balance sheet.proceeds.
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 in 2002, and the Company’s claims against MCI were not tried or settled with the claims against EDS and Systemhouse. On December 13, 2005, the Bankruptcy Court heard arguments on a summary judgment motion that MCI had made before filing for bankruptcy. On September 12, 2006, the Bankruptcy Court asked the parties to submit further briefs concerning whether the summary judgment motion should be decided based on the standard applicable to such motions under state or federal law. On August 21, 2007, the Court granted the motion in part and denied the motion in part, letting the action proceed with respect to the Company’s allegation that MCI, through its employees acting on its behalf, made a false oral representation relating to the sale of Systemhouse to EDS. Pursuant to the spin-off agreement with NPDC, the Company will contribute to NPDC 50% of any proceeds received in the future, net of legal fees and taxes, with respect to the litigation claims.
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.
18
(13)(15) Subsequent Event Accounting Standards Issued
Effective October 1, 2007, General Physics acquired Via, a custom e-learning sales training company, for a purchase price of $1,800,000 in cash paid at closing. In July 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109 (FIN 48). FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition of a tax position taken or expected to be taken on a tax return. Under FIN 48, a tax benefit from an uncertain tax positionaddition, General Physics may be recognized only if it is “more likely than not” thatrequired to pay up to an additional $3,250,000, contingent upon Via achieving certain earnings targets during the position is sustainable upon examination, based on its technical merits. The tax benefit of a qualifying position under FIN 48 would equaltwo twelve-month periods following the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information. FIN 48 will be effective as of January 1, 2007 for calendar-year companies. In applying the new accounting model prescribed by FIN 48, companies will need to determine and assess all material positions existing ascompletion of the adoption date, including all significant uncertain positions, in all tax years, that are still subject to assessment or challenge under relevant tax statutes. The Company is currently evaluating the impact of adopting this new accounting standard on its consolidated financial statements.acquisition (see note 3).
In September 2006, the SEC issued Staff Accounting Bulletin No. 108, Considering the Effects
19
of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements (SAB No. 108). SAB No. 108 addresses how the effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year financial statements. SAB No. 108 requires companies to quantify misstatements using a balance sheet and income statement approach and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. The Company is required to adopt SAB No. 108 for its annual financial statements for the fiscal year ending December 31, 2006. The Company is currently evaluating the impact of SAB No. 108, but at this time does not expect its adoption to have a material impact on its consolidated financial statements for its fiscal year ending December 31, 2006.
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements (SFAS No. 157), which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. SFAS No. 157 does not require any new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007, with earlier adoption permitted. The Company is currently evaluating the impact of SFAS No. 157, but at this time does not expect its adoption to have a material impact on its consolidated financial statements.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Results of Operations
The Company’s business consists of its principal operating subsidiary, General Physics, a global training, engineering, and consulting company that seeks to improve the effectiveness of organizations by providing training, and e-Learning solutions, management consulting, e-learning solutions and engineering services and products that are customized to meet the specific needs of clients. Clients include Fortune 1000500 companies and manufacturing, process and energy companies and other commercial and governmental customers. General Physics is a global leader in performance improvement, with over four decades of experience in providing solutions to optimize workforce performance.
ThePrior to the acquisition of Sandy Corporation (“Sandy”) on January 23, 2007, the Company hashad two reportable business segments:segments. Subsequent to the acquisition, Sandy is run as an unincorporated operating group of General Physics. The Company determined that the operations of Sandy constitute a separate reportable business segment and its results of operations are included in the Sandy Sales Training & Marketing segment since the effective date of the acquisition. As of September 30, 2007, the Company’s three reportable business segments are: 1) Process, Energy & Government; and 2) Manufacturing & Business Process Outsourcing (BPO):; and 3) Sandy Sales Training & Marketing. The Company is organized by operating group primarily based upon the markets served by each group and the services performed. The Process, Energy & Government and Manufacturing & BPO segments represent an aggregation of the Company’s operating segments in accordance with the aggregation criteria in Statement of Financial Accounting Standards (SFAS) No. 131, Disclosures about Segments of an Enterprise and Related Information (SFAS No. 131), and the Sandy Sales Training & Marketing segment represents one operating segment as defined in SFAS No. 131.
The following is a description of the Company’s three reportable business segments:
·• Process, Energy & Government – this segment primarily serves federal and state governmental agencies, large government contractors, petroleum and chemical refining companies, and electric power utilities and 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.services.
·• Manufacturing & BPO - this segment provides training, curriculum design and development, staff augmentation, e-Learning services, system hosting, integration and help desk support, training and business process outsourcing, and consulting and technical services toprimarily serves large companies in the automotive, steel, pharmaceutical, electronics, and other industries as well as certain governmental clients and 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.
• Sandy Sales Training & Marketing - - this segment provides custom sales training and print-based and electronic publications primarily to governmental clients.the automotive industry.
Acquisitions
Capital Stock RestructuringSandy Corporation
On 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 s hares 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 represented 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.
On January 19, 2006, the Board of Directors also approved, subject to stockholder approval, a proposal to amend the Company’s Amended and Restated Certificate of Incorporation to eliminate the authorized shares of Class B Capital Stock (the “Amendment”). At its annual meeting on September 14, 2006, the stockholders voted to approve the Amendment (See Part II, Item 4, Submission of Matters to a Vote of Security Holders). The
Amendment was filed with the Delaware Secretary of State and was effective September 15, 2006.
Acquisition
On February 3, 2006, the Company23, 2007, General Physics completed the acquisition of Peters Management Consultancycertain operating assets and the business of Sandy, a leader in custom product sales training and part of the ADP Dealer Services division of ADP. The Sandy business is run as an unincorporated division of General Physics. Sandy offers custom sales training and
20
print-based and electronic publications primarily to the automotive industry. The purchase price consisted of approximately $4.4 million in cash paid to ADP from cash on hand and the assumption by General Physics of certain liabilities to complete contracts. In addition, General Physics may be required to pay ADP up to an additional $8.0 million, contingent upon Sandy achieving certain revenue targets, as defined in the purchase agreement, during the two twelve-month periods following the completion of the acquisition.
The purchase price consisted of the following (in thousands):
Cash purchase price |
| $ | 4,393 |
|
Acquisition costs |
| 964 |
| |
Total purchase price |
| $ | 5,357 |
|
The Company’s preliminary purchase price allocation for the net assets acquired is as follows (in thousands):
Inventory |
| $ | 783 |
| |
Prepaid expenses and other current assets |
| 67 |
| ||
Property, plant and equipment |
| 134 |
| ||
Amortizable intangible assets |
| 6,006 |
| ||
Goodwill |
| 679 |
| ||
Total assets |
| 7,669 |
| ||
Accounts payable, accrued expenses and other liabilities |
| 1,004 |
| ||
Billings in excess of costs and estimated earnings on uncompleted contracts |
| 1,308 |
| ||
Total liabilities assumed |
| 2,312 |
| ||
|
|
|
| ||
| Net assets acquired |
| $ | 5,357 |
|
The Company recorded customer-related intangible assets as a result of the acquisition, which included $4,701,000 relating to customer lists and relationships acquired with an estimated useful life of 12 years, and $1,305,000 relating to contract backlog for future services under firm contracts to be amortized over 14 months subsequent to the acquisition in proportion to the amount of related backlog to be recognized in revenue. During the three and nine months ended September 30, 2007, the Company recognized $375,000 and $1,301,000 of amortization expense for these intangible assets, respectively. The amortization related to the contract backlog intangible asset totaled $277,000 and $1,040,000 for the three and nine months ended September 30, 2007, respectively, and the amortization related to the customer lists and relationships intangible asset totaled $98,000 and $261,000 for the three and nine months ended September 30, 2007, respectively.
The following unaudited pro forma condensed consolidated results of operations assume that the acquisition of Sandy was completed as of January 1 for each of the interim periods shown below:
21
|
| Nine months ended |
| ||||
|
| September 30, |
| ||||
|
| 2007 |
| 2006 |
| ||
|
| (In thousands, except per share amounts) |
| ||||
Revenue |
| $ | 181,986 |
| $ | 184,956 |
|
Net income |
| 7,035 |
| 6,320 |
| ||
Basic earnings per share |
| 0.42 |
| 0.38 |
| ||
Diluted earnings per share |
| 0.41 |
| 0.36 |
| ||
The pro forma data above may not be indicative of the results that would have been obtained had the acquisition actually been completed at the beginning of the periods presented, nor is it intended to be a projection of future results.
Smallpeice Enterprises Ltd. (PMC)(SEL)
On June 1, 2007, General Physics, through its wholly owned GPUK subsidiary, completed the acquisition of Smallpeice Enterprises Ltd. (“SEL”), a performanceprovider of business improvement and technical and management training companyservices in the United Kingdom. The CompanyGPUK acquired 100% ownership of PMCSEL for a purchase price of $1.3approximately $3.3 million in cash, subject to a post-closing adjustment based on actual net equity, plus contingent paymentsassets, and incurred approximately $0.2 million of acquisition costs. In addition, General Physics may be required to pay the seller up to $0.9an additional $1.8 million, basedcontingent upon SEL achieving certain earnings targets, as defined in the achievement of certain performance targetspurchase agreement, during the first yearone-year period following completion of the acquisition. PMCSEL is included in the Company’s Manufacturing & BPO segment and its results of operations are included in the accompanying condensed consolidated financial statements since the date of the acquisition. The pro-forma impact of the SEL acquisition is not material to the Company’s results of operations for the three and nine months ended September 30, 2007.
The Company’s preliminary purchase price allocation for the net assets acquired is as follows (in thousands):
Cash |
| $ | 30 |
| |
Accounts receivable and other current assets |
| 1,275 |
| ||
Property, plant and equipment |
| 172 |
| ||
Goodwill and intangible assets |
| 2,866 |
| ||
Total assets |
| 4,343 |
| ||
Accounts payable, accrued expenses and other liabilities |
| 712 |
| ||
Billings in excess of costs and estimated earnings on uncompleted contracts |
| 158 |
| ||
Total liabilities assumed |
| 870 |
| ||
|
|
|
| ||
| Net assets acquired |
| $ | 3,473 |
|
Via Training
Effective October 1, 2007, General Physics acquired Via, a custom e-learning sales training company, for a purchase price of $1.8 million in cash paid at closing. In addition, General Physics may be required to pay up to
22
an additional $3.3 million, contingent upon Via achieving certain earnings targets during the two twelve-month periods following the completion of the acquisition. Via will be included in the Company’s Manufacturing & BPO segment and its results of operations will be included in its consolidated financial statements effective October 1, 2007.
Operating Highlights
Three monthsMonths ended September 30, 2007 Compared to the Three Months ended September 30, 2006 compared to
For the three months ended September 30, 2005
For2007, the quarterCompany had income before income tax expense of $4.2 million compared to $2.9 million for the three months ended September 30, 2006,2006. The improved results are primarily due to an increase in operating income of $1.3 million, the Company hadcomponents of which are discussed below, and largely a result of increased margins in the Process, Energy & Government segment and the Sandy and SEL acquisitions which were accretive to earnings for the third quarter of 2007. Net income was $2.5 million, or $0.15 per diluted share, for the third quarter of 2007 compared to net income of $1.7 million, or $0.11 per diluted share, for the third quarter of 2006.
Diluted weighted average shares outstanding were 17.3 million for the third quarter of 2007 compared to $1.016.6 million or $0.05 per diluted share, for the third quarter of 2006. The increase in shares outstanding is primarily due to the issuance of shares for warrant and stock option exercises, offset by shares repurchased in the open market in 2007. In connection with its share repurchase program, the Company repurchased 110,300 shares of common stock in the open market during the three months ended September 30, 2005. The improved results were primarily due to an increase in income from continuing operations, the components of which are discussed in detail below, offset by a loss from discontinued operations of $0.42007 for approximately $1.2 million in 2005 which did not recurcash. In August 2007, the Company’s Board of Directors authorized an additional $5 million of future share repurchases under the buyback program. As of September 30, 2007, there was approximately $4.4 million remaining to be used for repurchases under the additional $5 million buyback program authorized in August 2007.
Revenue
|
| Three months ended |
| ||||
|
| September 30, |
| ||||
(Dollars in thousands) |
| 2007 |
| 2006 |
| ||
|
|
|
|
|
| ||
Process, Energy & Government |
| $ | 18,882 |
| $ | 18,910 |
|
Manufacturing & BPO |
| 27,055 |
| 25,141 |
| ||
Sandy Sales Training & Marketing |
| 14,900 |
| — |
| ||
|
| $ | 60,837 |
| $ | 44,051 |
|
Process, Energy & Government revenue was $18.9 million during both the third quarter of 2007 and the third quarter of 2006. In addition,Despite revenue being flat quarter over quarter, the increase in diluted earnings per share is partially attributable to the decrease in common shares outstandingfollowing offsetting fluctuations were experienced by this segment during the third quarter of 20062007 compared to the same period in 2006: net increases of $0.8 million in engineering and training services for petroleum and refining customers, net increases of $0.6 million for construction jobs primarily for liquefied natural gas (LNG) and hydrogen fueling station facilities, offset by a $1.2 million decrease in revenue from hurricane recovery services, and net decreases of $0.2 million primarily due to the completion of chemical demilitarization projects.
Manufacturing & BPO revenue increased $1.9 million or 7.6% during the third quarter of 2007 compared to the third quarter of 20052006. The increase in revenue is primarily due to a $1.8 increase in revenue from our operations in the United Kingdom due to the acquisition of SEL which contributed $1.3 million in revenue during the third
23
quarter of 2007, as well as the impact of foreign currency exchange fluctuations in the third quarter of 2007 compared to the third quarter of 2006. Other revenue increases during the third quarter of 2007 compared to the third quarter of 2006 included an increase in training and consulting services with steel customers of $0.8 million and net increases of $0.2 million in the expansion of BPO services with new and existing customers. The $0.2 million net increase in BPO services was comprised of $1.1 million of net increases with new and existing customers, offset by a resultdecrease in revenue of $0.9 million from a BPO client in 2007 due to a reduction in scope. These net increases in revenue were offset by a $0.6 million decrease in revenue due to reduced funding on a lean manufacturing contract as compared to the third quarter of 2006, and other net decreases in revenue of $0.3 million primarily due to fewer e-learning implementations and content development services taking place during the third quarter of 2007 compared to the third quarter of 2006.
The acquisition of Sandy resulted in an increase in revenue of $14.9 million during the third quarter of 2007. The results of Sandy’s operations have been included in the Company’s consolidated statements of operations since the completion of the capital stock restructuring discussed above.acquisition on January 23, 2007. The Company may experience significant quarterly fluctuations in revenue and income related to Sandy’s publications business, since revenue and cost on publication contracts are recognized in the period in which the publications ship, based on the output method of performance. Shipments occur at various times throughout the year and the volume of publications shipped could fluctuate from quarter to quarter. Publications revenue in the Sandy Sales Training & Marketing segment totaled $1.4 million during the third quarter of 2007, compared to $4.1 million during the second quarter of 2007 and $2.6 million during the first quarter of 2007.
RevenueGross Profit
(Dollars in thousands)
| Three months ended |
|
| Three months ended |
| |||||||||||||
|
| September 30, |
|
| September 30, |
| ||||||||||||
|
| 2006 |
| 2005 |
|
| 2007 |
| 2006 |
| ||||||||
(Dollars in thousands) |
|
|
| % Revenue |
|
|
| % Revenue |
| |||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Process, Energy & Government |
| $ | 18,910 |
| $ | 22,208 |
|
| $ | 4,221 |
| 22.4 | % | $ | 3,449 |
| 18.2 | % |
Manufacturing & BPO |
| 25,141 |
| 21,851 |
|
| 3,501 |
| 12.9 | % | 3,461 |
| 13.8 | % | ||||
Sandy Sales Training & Marketing |
| 1,325 |
| 8.9 | % | — |
| — |
| |||||||||
|
| $ | 44,051 |
| $ | 44,059 |
|
| $ | 9,047 |
| 14.9 | % | $ | 6,910 |
| 15.7 | % |
Process, Energy & Government revenue decreased $3.3gross profit of $4.2 million or 14.9% during22.4% of revenue for the third quarter of 20062007 increased by $0.8 million or 22.4% when compared to the third quarter of 2005. The decrease in revenue is primarily due to a $10.0 million decline in government funding for the Domestic Preparedness Equipment Technical Assistance Program (DPETAP) which resulted in a decrease in revenue of $2.3 million during the third quarter of 2006 compared to the third quarter of 2005. In addition, there were decreases in revenue from various other governmental and energy customers of $3.5 million during the third quarter of 2006 compared to the third quarter of 2005 primarily due to the completion of several contracts in 2006. These decreases in revenue were offset by an increase in hurricane recovery services revenue of $1.0 million and a net increase in revenue of $1.5 million related to various new contracts during the third quarter of 2006 compared to the third quarter of 2005.
Manufacturing & BPO revenue increased $3.3 million or 15.1% during the third quarter of 2006 compared to the third quarter of 2005. The increase in revenue is due to the following: a $1.9 million increase due to the expansion of business process outsourcing services with new and existing customers, a $1.2 million increase
from our international operations in the United Kingdom primarily resulting from the PMC acquisition in February 2006, a $0.7 million increase in lean manufacturing services, a $0.4 million increase in other technical services provided primarily to a pharmaceutical customer, and net increases of $0.4 million on various other contracts. These increases were offset by a $1.3 million revenue decrease in government e-Learning implementation services due to fewer implementations taking place during the third quarter of 2006 compared to the third quarter of 2005.
Gross Profit
(Dollars in thousands)
| Three months ended |
| |||||||||
|
| September 30, |
| ||||||||
|
| 2006 |
| 2005 |
| ||||||
|
|
|
| % Revenue |
|
|
| % Revenue |
| ||
Process, Energy & Government |
| $ | 3,449 |
| 18.2 | % | $ | 4,310 |
| 19.4 | % |
Manufacturing & BPO |
| 3,461 |
| 13.8 | % | 2,378 |
| 10.9 | % | ||
|
| $ | 6,910 |
| 15.7 | % | $ | 6,688 |
| 15.2 | % |
Process, Energy & Government gross profit of $3.4 million or 18.2% of revenue for the third quarter of 2006 decreased2006. This increase in gross profit is primarily attributable to revenue and margin increases on petroleum and refining projects due to both direct costs and indirect overhead costs increasing at a lower rate than the revenue growth on these projects during the third quarter of 2007 compared to the third quarter of 2006. In addition, there were increases in gross profit due to revenue growth on construction jobs primarily for liquefied natural gas (LNG) and hydrogen fueling station facilities, as well as an increase in gross profit related to the sale of a software product to an energy customer that occurred during the third quarter of 2007. Costs were also reduced to re-align with the declining revenue streams experienced by $0.9the other areas within this segment as discussed above.
Manufacturing & BPO gross profit was $3.5 million or 20.0% when compared to gross profit of $4.3 million or 19.4%12.9% of revenue for the third quarter of 2005. This decrease in gross profit is primarily attributable2007 compared to a decline in government funding for the DPETAP contract and other decreases in revenue discussed above.
Manufacturing & BPO gross profit of $3.5 million or 13.8% of revenue for the third quarter of 2006 increased by $1.1 million or 45.5% when compared to gross2006. Gross profit of $2.4 million or 10.9%was flat quarter over quarter, but decreased as a percentage of revenue for the third quarter of 2005. This increase in gross profit is primarily attributable2007 compared to an increase in revenue from business process outsourcing, lean manufacturing and other technical services, as well as international growth2006. The decreased margins are due to the following: non-billable start-up costs incurred on a new major BPO contract during the third quarter of 20062007, a lower volume of participant attendance per course for training provided to certain BPO customers during the third quarter of 2007 compared to the third quarter of 2005. Additionally, infrastructure costs2006,
24
and investments in the expansion of international operations during the third quarter of 2007 compared to the third quarter of 2006.
Sandy Sales Training and Marketing gross profit was $1.3 million or 8.9% of revenue for the third quarter of 2007. The results of Sandy’s operations have not increased atbeen included in the same rate as our revenue growth for this segment, resulting in increased profitability.Company’s consolidated statements of operations since the completion of the acquisition on January 23, 2007.
Selling, General and Administrative Expenses
SG&A decreased $0.2expenses increased $0.8 million or 5.7%21.9% from $4.1$3.8 million for the third quarter of 20052006 to $3.8$4.7 million for the third quarter of 2007. The increase in SG&A expenses during the third quarter of 2007 compared to the third quarter of 2006 is primarily due to an increase in amortization expense of $0.4 million related to intangible assets recorded in connection with the acquisition of Sandy and an increase in labor, benefits and facilities expense of $0.4 million primarily due to the Sandy acquisition.
Interest Expense
Interest expense was $0.3 million for the third quarter of 2007 compared to $0.4 million for the third quarter of 2006. The decrease of $80,000 is primarily due to a decrease in legal expensesinterest expense related to the Gabelli Notes as a result of warrant exercises by Gabelli Funds during 2007 and the second half of 2006 which resulted in a decrease in the principal balance of the debt (see Note 7 to the accompanying condensed consolidated financial statements), as well as a decrease in amortization of deferred financing costs during the third quarter of 20062007 compared to the third quarter of 2005.
Interest Expense
Interest2006. The decrease in interest expense was $0.4 million for bothslightly offset by an increase in interest expense due to an increase in short-term borrowings under the Credit Agreement during the third quarter of 2006 and 2005.2007 compared to the third quarter of 2006.
Other Income
Other income was $0.1 million for the third quarter of 2007 compared to $0.2 million for the third quarter of 2006 compared2006. The decrease of $32,000 is primarily due to $0.1a decrease in interest income.
Income Tax Expense
Income tax expense was $1.7 million for the third quarter of 2005. The increase was primarily due to an increase in income from a joint venture during the third quarter of 20062007 compared to the third quarter of 2005. Other income for the third quarter of 2006 includes $0.1 million of equity in earnings of a joint venture, for which an immaterial amount was included in revenue during the third quarter of 2005.
Income Tax Expense
Income tax expense was $1.1 million for the third quarter of 2006 compared to $0.9 million for the third quarter of 2005. This2006. The increase is due to increased income from continuing operations before income tax expense for the third quarter of 20062007 compared to the third quarter of 2005.2006 The effective income tax rate was 39.9% and 39.5% for the three months ended September 30, 2007 and 2006, respectively. Income tax expense for interimthe quarterly periods is based on an estimated annual effective tax rate which includes the federal and state statutory rates, permanent differences, and other items that may have an impact on income tax expense.
Nine monthsMonths ended September 30, 2006 compared2007 Compared to the nine monthsNine Months ended September 30, 20052006
For the nine months ended September 30, 2006,2007, the Company had income before income tax expense of $11.8 million compared to $8.3 million for the nine months ended September 30, 2006. The improved results are primarily due to an increase in operating income of $3.3 million, the components of which are discussed below, and is attributable to increases in operating income across all of the Company’s business segments as well as the Sandy and SEL acquisitions which were accretive to earnings in 2007. Net income was $6.9 million, or $0.40 per diluted share for the nine months ended September 30, 2007 compared to net income of $4.9 million, or $0.28 per diluted share, compared to $2.7 million, or $0.14 per diluted share, for the same period in 2005. The improved results were primarily due to an increase in income from continuing operations, the components of which are discussed in detail below, offset by a loss from discontinued operations of $1.0 million in 2005 which did not recur in 2006. In addition, the increase in diluted earnings per share is partially attributable to the decrease in common
25
Diluted weighted average shares outstanding duringwere 17.2 million for the nine months ended September 30, 20062007 compared to 17.4 million for the same period in 2005 as a result2006. In connection with its share repurchase program, the Company repurchased 255,300 shares of the capitalcommon stock restructuring discussed above, and repurchases of 276,000 common shares in the open market during the nine months ended September 30, 2006.2007 for approximately $2.5 million in cash. In August 2007, the Company’s Board of Directors authorized an additional $5 million of future share repurchases under the buyback program. As of September 30, 2007, there was approximately $4.4 million remaining to be used for repurchases under the additional $5 million buyback program authorized in August 2007.
Revenue
(Dollars in thousands)
| Nine months ended |
|
| Nine months ended |
| |||||||||
|
| September 30, |
|
| September 30, |
| ||||||||
|
| 2006 |
| 2005 |
| |||||||||
(Dollars in thousands) |
| 2007 |
| 2006 |
| |||||||||
|
|
|
|
|
|
|
|
|
|
| ||||
Process, Energy & Government |
| $ | 57,821 |
| $ | 64,328 |
|
| $ | 52,400 |
| $ | 57,821 |
|
Manufacturing & BPO |
| 75,537 |
| 66,950 |
|
| 80,181 |
| 75,537 |
| ||||
Sandy Sales Training & Marketing |
| 45,457 |
| — |
| |||||||||
|
| $ | 133,358 |
| $ | 131,278 |
|
| $ | 178,038 |
| $ | 133,358 |
|
Process, Energy & Government revenue decreased $6.5$5.4 million or 10.1%9.4% during the nine months ended September 30, 20062007 compared to the same period in 2005. 2006. The decrease in revenue is primarily due to a $10.0decrease in revenue of $4.8 million due to the completion of chemical demilitarization projects during 2006 and a $3.9 million decrease in hurricane recovery services during the nine months ended September 30, 2007 compared to the same period in 2006. In addition, there was a $0.9 million decline in governmentrevenue funding for the DPETAP contractDomestic Preparedness Equipment Technical Assistance Program (DPETAP), offset by an increase of $0.4 million of revenue for state emergency awareness training services. There were also net decreases of $1.0 million for services provided to energy and other customers primarily due to contracts concluding in late 2006 and early 2007. These decreases were offset by an increase of $3.3 million in engineering and training services for petroleum and refining customers and a net increase of $1.5 million for construction jobs primarily for liquefied natural gas (LNG) and hydrogen fueling station facilities.
Manufacturing & BPO revenue increased $4.6 million or 6.1% during the nine months ended September 30, 2007 compared to the same period in 2006. The increase in revenue is primarily due to a $3.1 million increase in revenue from our operations in the United Kingdom due to the acquisition of SEL which resultedcontributed $1.9 million in revenue during the nine months ended September 30, 2007, as well as the impact of foreign currency exchange fluctuations during the nine months ended September 30, 2007 compared to the same period in 2006. Other revenue increases during 2007 included an increase in training and consulting services with steel customers of $1.7 million and net increases of $1.4 million in the expansion of BPO services with new and existing customers. The $1.4 million net increase in BPO services is comprised of $5.2 million of net increases with new and existing customers, offset by a decrease in revenue of $7.7$3.8 million from a BPO client in 2007 due to a reduction in scope. These net increases in revenue were offset by a $1.2 million net revenue decrease primarily due to fewer e-learning implementations and content development services taking place during the nine months ended September 30, 2007 compared to the same period in 2006, as well as a net $0.4 million decrease in revenue on lean manufacturing contracts as compared to 2006.
The acquisition of Sandy resulted in an increase in revenue of $45.5 million during the nine months ended September 30, 20062007. The results of Sandy’s operations have been included in the Company’s consolidated
26
statements of operations since the completion of the acquisition on January 23, 2007. The Company may experience significant quarterly fluctuations in revenue and income related to Sandy’s publications business, since revenue and cost on publication contracts are recognized in the period in which the publications ship, based on the output method of performance. Shipments occur at various times throughout the year and the volume of publications shipped could fluctuate from quarter to quarter. Publications revenue in the Sandy Sales Training & Marketing segment totaled $1.4 million during the third quarter of 2007, compared to $4.1 million during the same period in 2005. second quarter of 2007 and $2.6 million during the first quarter of 2007.
In addition, as a scheduling delay on an environmental engineering contract resultedresult of the acquisition of Sandy, the Company has a concentration of revenue from General Motors Corporation and its affiliates (“General Motors”) as well as a market concentration in a decrease inthe automotive sector. Revenue from General Motors accounted for approximately 21% of the Company’s revenue of $3.5 million duringfor the nine months ended September 30, 2006 compared to2007, and revenue from the same period in 2005. There were also net decreases inautomotive industry accounted for approximately 30% of the Company’s revenue of $0.6 million on various energy and other government contracts. These decreases were offset by an increase in hurricane recovery services revenue of $3.9 million, an increase in chemical demilitarization training support services of $0.6 million, and an increase in revenue of $0.8 million related to a liquefied natural gas (LNG) fueling station project duringfor the nine months ended September 30, 2006 compared to the same period in 20052007.
Gross Profit.
|
| Nine months ended |
| ||||||||
|
| September 30, |
| ||||||||
|
| 2007 |
| 2006 |
| ||||||
(Dollars in thousands) |
|
|
| % Revenue |
|
|
| % Revenue |
| ||
Process, Energy & Government |
| $ | 11,014 |
| 21.0 | % | $ | 9,419 |
| 16.3 | % |
Manufacturing & BPO |
| 10,764 |
| 13.4 | % | 10,210 |
| 13.5 | % | ||
Sandy Sales Training & Marketing |
| 4,615 |
| 10.2 | % | — |
| — |
| ||
|
| $ | 26,393 |
| 14.8 | % | $ | 19,629 |
| 14.7 | % |
ManufacturingProcess, Energy & BPO revenue increased $8.6Government gross profit of $11.0 million or 12.8% during21.0% of revenue for the nine months ended September 30, 20062007 increased by $1.6 million or 16.9% when compared to the same period in 2005. The increase in revenue is due to the following: a $4.6 million increase due to the expansion of business process outsourcing services with new and existing customers, a $3.1 million increase from our international operations in the United Kingdom primarily resulting from the PMC acquisition in February 2006 as well as growth on existing international contracts, a $2.3 million increase in lean manufacturing services, and a $1.3 million increase for other technical services provided primarily to a
pharmaceutical customer. These net increases in revenue were offset by other decreases in revenue, primarily due to a change in contract scopes with a business process outsourcing customer during 2005 which resulted in a decrease in revenue of $2.7 million during the nine months ended September 30, 2006 compared to the same period in 2005.
Gross Profit
(Dollars in thousands)
| Nine months ended |
| |||||||||
|
| September 30, |
| ||||||||
|
| 2006 |
| 2005 |
| ||||||
|
|
|
| % Revenue |
|
|
| % Revenue |
| ||
Process, Energy & Government |
| $ | 9,419 |
| 16.3 | % | $ | 11,978 |
| 18.6 | % |
Manufacturing & BPO |
| 10,210 |
| 13.5 | % | 6,622 |
| 9.9 | % | ||
|
| $ | 19,629 |
| 14.7 | % | $ | 18,600 |
| 14.2 | % |
Process, Energy & Government gross profit of $9.4 million or 16.3% of revenue for the same period in 2006. This increase in gross profit is primarily attributable to revenue and margin increases on petroleum and refining projects due to both direct costs and indirect overhead costs increasing at a lower rate than the revenue growth on these projects during the nine months ended September 30, 2006 decreased2007 compared to the same period in 2006. In addition, there were increases in gross profit due to revenue growth on construction jobs primarily for liquefied natural gas (LNG) and hydrogen fueling station facilities. Costs were also reduced to re-align with the declining revenue streams experienced by $2.6 million or 21.4% when compared tothe other areas within this segment as discussed above. The gross profit increase on the petroleum and refining projects combined with these cost reductions more than offset the revenue decreases in this segment.
Manufacturing & BPO gross profit of approximately $12.0$10.8 million or 18.6%13.4% of revenue for the nine months ended September 30, 2005. This decrease in gross profit is primarily attributable to a decline in government funding for the DPETAP contract and the environmental engineering project delay discussed above, offset2007 increased by an increase in gross profit related to an increase in revenue from hurricane recovery services during the nine months ended September 30, 2006$0.6 million or 5.4% when compared to the same period in 2005.
Manufacturing & BPO gross profit of $10.2 million or 13.5% of revenue for the nine months ended September 30, 2006 increased by $3.6 million or 54.2% when compared to gross profit of approximately $6.6 million or 9.9% of revenue for the same period of 2005.in 2006. This increase in gross profit is primarily attributabledue to an increaserevenue growth in this segment, partially offset by decreases in margin due to non-billable start-up costs incurred on a new major BPO contract, a lower volume of participant atttendance per course for training provided to certain BPO customers during the third quarter of 2007 compared to the third quarter of 2006, and investments in the expansion of international operations during the third quarter of 2007. In addition, there was a decrease in gross profit due to income from a management services agreement with GSE Systems in 2006 which ended on December 31, 2006 and did not generate income in 2007.
Sandy Sales Training and Marketing gross profit was $4.6 million or 10.2% of revenue from business process outsourcing, e-Learning, lean manufacturing and other technical services, as well as international growth duringfor the nine months ended September 30, 2006 compared to2007. The results of Sandy’s operations have been included in the same periodCompany’s consolidated statements of 2005. Additionally, infrastructure costs have not increased atoperations since the same rate as our revenue growth for this segment, resulting in increased profitability.completion of the acquisition on January 23, 2007.
27
Selling, General and Administrative Expenses
SG&A decreased $0.2expenses increased $3.4 million or 1.5%31.8% from $11.0$10.8 million for the nine months ended September 30, 20052006 to $10.8$14.3 million for the same period in 2006. This net decrease2007. The increase is primarily due to a decreasethe following increases in legalSG&A expenses during the nine months ended September 30, 20062007 compared to the same period in 2005.2006: an increase in amortization expense of $1.3 million related to intangible assets recorded in connection with the acquisition of Sandy, an increase in labor, benefits and facilities expense of $1.1 million due to the Sandy acquisition, increases in accounting, legal and board of director fees totaling approximately $0.4 million, and the effect of a bad debt recovery of $0.4 million in the first quarter of 2006 which reduced SG&A expense in 2006 and did not recur in 2007.
Interest Expense
Interest expense wasdecreased $0.3 million from $1.2 million for the nine months ended September 30, 2006 compared to $1.1$1.0 million for the same period in 2005.2007. The increasedecrease is primarily due to higher short-term borrowing levelsa $0.3 million decrease in interest expense related to the Gabelli Notes as a result of warrant exercises by Gabelli Funds during 2007 and the second half of 2006 which resulted in a decrease in the principal balance of the debt (see Note 7 to the accompanying condensed consolidated financial statements), as well as a decrease in amortization of deferred financing costs during the nine months ended September 30, 20062007 compared to the same period in 2005.2006. The decrease in interest expense was slightly offset by an increase in interest expense due to an increase in short-term borrowings under the Credit Agreement during the first half of 2007 compared to the same period in 2006.
Other Income
Other income was $0.8$0.7 million for the nine months ended September 30, 20062007 compared to $0.1$0.8 million for the same period in 2005.2006. The increase isdecrease of $0.1 million was primarily due to an increasea decrease in income from a joint venture, as well as an increase in investmentinterest income during the nine months ended September 30, 20062007 compared to the same period
in 2006.
in 2005. Other income for the nine months ended September 30, 2006 includes $0.4 million of equity in earnings of a joint venture, for which an immaterial amount was included in revenue during the same period in 2005.
Income Tax Expense
Income tax expense was $3.5$4.9 million for the nine months ended September 30, 20062007 compared to $2.9$3.5 million for the same period in 2005. This2006. The increase is due to increased income from continuing operations before income tax expense for the nine months ended September 30, 20062007 compared to the same period in 2005.2006. The effective income tax rate was 41.3% and 41.6% for the nine months ended September 30, 2007 and 2006, respectively. Income tax expense for interimthe quarterly periods is based on an estimated annual effective tax rate which includes the federal and state statutory rates, permanent differences, and other items that may have an impact on income tax expense.
Working Capital
For the nine months ended
The Company had cash and cash equivalents totaling $2.7 million as of September 30, 2006, the Company’s working capital decreased $12.72007 compared to $8.7 million from $34.8 million atas of December 31, 2005 to $22.2 million at2006. In addition, the Company had a negative cash book balance resulting from outstanding checks which had not cleared the bank as of September 30, 2006. 2007 totaling $0.9 million due to the timing of payments, which is included in accounts payable and accrued expenses on the accompanying condensed consolidated balance sheet as of September 30, 2007.
The decrease in cash from December 31, 2006 is primarily due to the use of approximately $20.3a total of $8.8 million of cash in January 2006 to complete the capitalacquisitions of Sandy in January 2007 and SEL in the United Kingdom in June 2007. The
28
Company also used approximately $2.5 million of cash to repurchase 255,300 shares of its common stock restructuring discussed below, offset by cash generated from operating activitiesin the open market during the nine months ended September 30, 2006. 2007.
In connection with the acquisitions of Sandy, SEL and Via Training during 2007, the Company may be required to pay the following additional payments to the sellers:
•up to an additional $8.0 million to ADP, contingent upon Sandy achieving certain revenue targets, as defined in the purchase agreement, during the two twelve-month periods following the completion of the acquisition (a maximum of $4.0 million each year subsequent to the January 23, 2007 acquisition date);
•up to an additional $1.8 million to the sellers of SEL, contingent upon SEL achieving certain earnings targets, as defined in the purchase agreement, during the one-year period following completion of the acquisition; and
•up to an additional $3.3 million, contingent upon Via achieving certain earnings targets during the two twelve-month periods following the completion of the acquisition.
The Company believes that cash generated from operations and borrowing availability under the Credit Agreement (described below), will be sufficient to fund the working capital and other requirements of the Company for at least the next twelve months.foreseeable future.
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
For the nine months ended September 30, 2007, the Company’s working capital increased $0.2 million from $23.1 million at December 31, 2006 the Company repurchased 276,000 shares of its Common Stock in the open market for a total cost of approximately $1.9 million.to $23.3 million at September 30, 2007.
On February 3, 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.
Cash Flows
Nine monthsMonths ended September 30, 2006 compared2007 Compared to the nine monthsNine Months ended September 30, 20052006
The Company’s cash balance decreased $12.9 million from $18.1$8.7 million as of December 31, 20052006 to $5.2$2.7 million at September 30, 2006.2007. The decrease in cash and cash equivalents resulted from cash used in investing activities of $11.1 million, offset by cash provided by operating activities of $1.8 million and cash provided by financing activities of $3.2 million during the nine months ended September 30, 2006 resulted from cash provided by operating activities of $9.8 million, offset by cash used in investing activities of $1.1 million and cash used in financing activities of $21.6 million. Cash flows from discontinued 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.2007.
24
Cash provided by operating activities was $9.8$1.8 million for the nine months ended September 30, 20062007 compared to $11.8$9.8 million for the same period in 2005.2006. The decrease in cash provided by operating activities compared to the prior year period is primarily due to the receipt of proceeds from the EDS arbitration award of $13.8 million in January 2005, offset by an increase in net incomeaccounts receivable and costs and estimated earnings in excess of $2.4 million and increases in net working capital changes of $8.6 million during the nine months ended September 30, 2006 compared to the same period in 2005. During the nine months ended September 30, 2005, working capital changes included an $8.0 million decrease in accounts payable and accrued expenses which was primarily related to the payout of $5.0 millionbillings on uncompleted contracts as a result of the EDS arbitration proceedsSandy acquisition. The Company did not acquire Sandy’s accounts receivable and contract-related unbilled balances as of the acquisition date, which resulted in a short-term investment by the Company to NPDC pursuant tocomplete contracts and a delay in the spin-off agreement (see Note 12 to the accompanying condensed consolidated financial statements). Excluding this item, net changes in working capital increased $3.6 million during the nine months ended September 30, 2006 compared to the same period in 2005.collection of billings.
Cash used in investing activities was $1.1$11.1 million for the nine months ended September 30, 20062007 compared to $0.8$1.1 million for the same period in 2005.2006. The increase in cash used in investing activities is primarily due to $5.4 million of cash used for the acquisition of Sandy and $3.4 million of cash used for the acquisition of SEL in the United Kingdom (see Note 3 to the accompanying condensed consolidated financial statements for further details regarding these acquisitions), compared to $0.6 million of net cash paidused in connection with2006 for the acquisition of PMC (net of $0.8 million cash acquired), offset by a reductionPeters Management Consultancy Ltd. (PMC) in the United Kingdom. In addition, cash used for purchases of property, plant and equipment of $0.3fixed asset additions increased $0.9 million during the nine months ended September 30, 20062007 compared to the same period in 2005.2006, and cash used for software development costs related to a new financial system implementation was $0.8 million during the nine months ended September 30, 2007.
Cash used inprovided by financing activities was $21.6$3.2 million for the nine months ended September 30, 20062007 compared to $2.8cash used in financing activities of $21.6 million for the same period in 2005.2006. The increase in cash used in financing activities provided
29
is primarily due to $20.9 million of cash used in connection with the capital stock restructuring (including transaction costs) and $1.9 million of cash used for repurchases of common stock in the open market. In addition, cash used2006 which did not recur in financing activities2007, an increase in short-term borrowings during the nine months ended September 30, 2005 included2007 of $3.3 million compared to no borrowings in 2006, and a negative cash book balance totaling $0.9 million as of September 30, 2007 resulting from outstanding checks which had not cleared the following items which did not recurbank as of September 30, 2007 due to the timing of payments, and are classified as accounts payable in 2006: net repayments of short-term borrowings of $4.9 million; a distribution of $0.8 million ofthe condensed consolidated balance sheet. In addition, there was an increase in cash to GSE in connection with its spin-off, and proceedsreceived from the issuanceexercise of a convertible note by GSEstock options of $2.0 million.$0.7 million during the nine months ended September 30, 2007 compared to the same period in 2006.
Short-term Borrowings and Long-term Debt
General Physics has a $25 million Credit Agreement with a bank that expires on August 12, 2007, as amended,31, 2009, with annual renewal options, and is secured by certain assets of General Physics.Physics and provides for an unsecured guaranty from the Company. The maximum interest rate on borrowings under the Credit Agreement is at the daily LIBOR Market Index Rate plus 3.0%2.75%. Based upon the financial performance of General Physics, the interest rate can be reduced. As of September 30, 2006,2007, the rate was daily LIBOR plus 2.5%2.50%, which resulted in a rate of approximately 7.8%7.9%. The Credit Agreement contains covenants with respect to General Physics’ minimum tangible net worth, total liabilities ratio, leverage ratio, interest coverage ratio and its ability to make capital expenditures. The Credit Agreement also contains certain restrictive covenants.covenants regarding future acquisitions, incurrence of debt and the payment of dividends. General Physics was in compliance with all loan covenants under the Credit Agreement as of September 30, 2007. General Physics is also currently restricted from paying dividends and management fees to the Company in excess of $1.0 million in any fiscal year, with the exception of a waiver by the lender which permits General Physics to provide up to $10 million of cash to the Company to repurchase up to $5 million of additional shares of its outstanding Common Stock (see Note 7 tocommon stock in the accompanying condensed consolidated financial statements).open market. As of September 30, 2006,2007, the Company had no$3,330,000 of outstanding borrowings under the Credit Agreement and there was approximately $20,527,000$21,500,000 of additional borrowings available borrowings based upon 80% of eligible accounts receivable and 80% of eligible unbilled receivables. As of December 31, 2005,2006, the Company had no borrowings outstanding borrowings under the Credit Agreement.
Long-term Debt
In August 2003, the Company issued 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 Stockcommon 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.Corporation (NPDC) in connection with its spin-off in 2004. 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 GSE Systems, Inc. and in accordance 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. During the nine monthsyear ended September 30,December 31, 2006, Gabelli exercised 109,376197,823 GP Warrants for a total exercise price of $640,000$1,157,000, which was paid in the form of $140,000 cash and delivery of $500,000$1,017,000 of the Gabelli Notes.Notes and accrued interest thereon. During the nine months ended September 30, 2007, Gabelli Funds exercised an additional 624,862 GP Warrants for a total exercise price of $3,655,000 which was paid in the form of delivery of the Gabelli Notes and accrued interest thereon. As of September 30, 2006,2007, there were 874,740161,431 GP Warrants with an exercise price of $5.85 per share outstanding and exercisable.
In October 2003, the Company issued a five-year 5% note due in full in October 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 into Common Stockcommon
30
stock of the Company at the then market price of the Company’s Common Stock,common stock, but only in the event that the Company’s Common Stockcommon 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.
Off-Balance Sheet Arrangements – Guarantees
Subsequent to the spin-off of NPDC, the Company continued to guarantee certain obligations of NPDC’s subsidiaries, Five Star Products, Inc. (“Five Star”) and MXL Industries, Inc. (“MXL”). The Company guaranteed certain operating leases for Five Star’s New Jersey and Connecticut warehouses, totaling approximately $1,589,000 per year through March 31, 2007. The leases have been extended and now expire in the first quarter of 2009. The annual rent obligations are currently approximately $1,600,000. In connection with the spin-off of NPDC by the Company, NPDC agreed to assume the Company’s obligation under such guarantees, to use commercially reasonable efforts to cause the Company to be released from each such guaranty, and to hold the Company harmless from all claims, expenses and liabilities connected with the leases or NPDC’s breach of any agreements effecting the spin-off. The Company has not received confirmation that it has been released from these guarantees. The Company does not expect to incur any material payments associated with these guarantees, and as such, no liability is reflected in the condensed consolidated balance sheet.
The Company also guarantees the repayment of a debt obligation of MXL, which is secured by property and certain equipment of MXL. The aggregate outstanding balance of MXL’s debt obligation as of September 30, 2007 was $1,030,000. The Company’s guarantee expires upon the maturity of the debt obligation in March 2011. The Company does not expect to incur any material payments associated with this guarantee, and as such, no liability is reflected in the condensed consolidated balance sheet.
Management Discussion of Critical Accounting Policies
The preparation of our consolidated financial statements in conformity with U.S. generally accepted accounting principles requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Our estimates, judgments and assumptions are continually evaluated based on available information and experience. Because of the use of estimates inherent in the financial reporting process, actual results could differ from those estimates.
Certain of our accounting policies require higher degrees of judgment than others in their application. These include revenue recognition, impairment of intangible assets, including goodwill, and valuation of deferred tax assets. We discuss our accounting policies for impairment of intangible assets and valuation of deferred tax assets in Note 2 to our Annual Report on Form 10-K for the fiscal year ended December 31, 2006. As a result of the acquisition of Sandy during the first quarter of 2007, we have updated our accounting policy with respect to revenue recognition below.
Revenue Recognition
The Company provides services under time-and-materials, cost-reimbursable, fixed-price and fixed-fee per transaction contracts to both government and commercial customers. Each contract has different terms based on the scope, deliverables and complexity of the engagement, requiring the Company to make judgments and estimates about recognizing revenue. Revenue is recognized as services are performed.
31
Under time-and-materials contracts, as well as certain government cost-reimbursable and certain fixed-price contracts, the contractual billing schedules are based on the specified level of resources the Company is obligated to provide. As a result, for these “level-of-effort” contracts, the contractual billing amount for the period is a measure of performance and, therefore, revenue is recognized in that amount.
Revenue under government fixed price and certain commercial contracts is recognized using the percentage of completion method in accordance with the American Institute of Certified Public Accountants Statement of Position 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts. Under the percentage-of-completion method, management estimates the percentage-of-completion based upon costs incurred as a percentage of the total estimated costs. When total cost estimates exceed revenues, the estimated losses are recognized immediately. The use of the percentage-of-completion method requires significant judgment relative to estimating total contract revenues and costs, including assumptions relative to the length of time to complete the project, the nature and complexity of the work to be performed, and anticipated changes in estimated salaries and other costs. Estimates of total contract revenues and costs are continuously monitored during the term of the contract, and recorded revenues and costs are subject to revision as the contract progresses. When revisions in estimated contract revenues and costs are determined, such adjustments are recorded in the period in which they are first identified.
For certain commercial fixed-fee per transaction contracts, revenue is recognized during the period in which services are delivered in accordance with the pricing outlined in the contracts. For other commercial fixed price contracts which typically involve a discrete project, such as development of training content and materials, design of training processes, software implementation, or engineering projects, the contractual billing schedules are not based on the specified level of resources the Company is obligated to provide. These discrete projects generally do not contain milestones or other reliable measures of performance. As a result, revenue on these arrangements is recognized using the percentage-of-completion method based on the relationship of costs incurred to total estimated costs expected to be incurred over the term of the contract. The Company believes this methodology is a reasonable measure of proportional performance since performance primarily involves personnel costs and services are provided to the customer throughout the course of the projects through regular communications of progress toward completion and other project deliverables. In addition, the customer typically is required to pay the Company for the proportionate amount of work and cost incurred in the event of contract termination.
For certain fixed-fee per transaction and fixed price contracts in which the output of the arrangement is measurable, such as for the shipping of publications and print materials, revenue is recognized when the deliverable is met and the product is delivered based on the output method of performance. The customer is required to pay for the cost incurred in the event of contract termination.
Certain of the Company’s fixed price commercial contracts contain revenue arrangements with multiple deliverables. The Company applies the separation guidance in Emerging Issues Task Force (EITF) 00-21, Revenue Arrangements with Multiple Deliverables (EITF 00-21), for these types of contracts. Revenue arrangements with multiple deliverables are evaluated to determine if the deliverables can be divided into more than one unit of accounting. For contracts determined to have more than one unit of accounting, the Company recognizes revenue for each deliverable based on the revenue recognition policies discussed above; that is, the Company recognizes revenue in accordance with work performed and costs incurred, with fee being allocated proportionately over the service period. Within each multiple deliverable project, there is objective and reliable fair value across all units of the arrangement, as discounts are not offered or applied to one deliverable versus another, and the rates bid across all deliverables are consistent.
32
As part of the Company’s on-going operations to provide services to its customers, incidental expenses, which are commonly referred to as “out-of-pocket” expenses, are billed to customers, either directly as a pass-through cost or indirectly as a cost estimated in proposing on fixed-price contracts. Out-of-pocket expenses include expenses such as airfare, mileage, hotel stays, out-of-town meals and telecommunication charges. The Company’s policy provides for these expenses to be recorded as both revenue and direct cost of services in accordance with the provisions of EITF 01-14, Income Statement Characterization of Reimbursements Received for “Out-of-Pocket” Expenses Incurred.
In connection with its delivery of products, primarily for publications delivered by the Sandy Sales Training & Marketing segment, the Company incurs shipping and handling costs which are billed to customers directly as a pass-through cost. The Company’s policy provides for these expenses to be recorded as both revenue and direct cost of revenue in accordance with the provisions of EITF 00-10, Accounting for Shipping and Handling Fees and Costs.
Accounting Standards IssuedStandard Adopted
In July 2006, the FASBFinancial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes —– an Interpretation of FASB Statement No. 109 (FIN No. 48). FIN No. 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition of a tax position taken or expected to be taken on a tax return. Under FIN No. 48, a tax benefit from an uncertain tax position may be recognized only if it is “more likely than not” that the position is sustainable upon examination, based on its technical merits. The tax benefit of a qualifying position under FIN No. 48 would equal the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information. FIN No. 48 will bewas effective as of January 1, 2007 for calendar-year companies. In applying the new accounting model prescribed by FIN No. 48, companies will needthe Company was required to determine and assess all material positions existing as of the adoption date, including all significant uncertain positions, in all tax years, that are still subject to assessment or challenge under relevant tax statutes. The Company is currently evaluatingadopted FIN No. 48 effective January 1, 2007. See Note 10 to the accompanying condensed consolidated financial statements for further details regarding the impact of adopting this new accounting standardadoption of FIN No. 48 on itsthe Company’s consolidated financial statements.
In September 2006, the SEC issued Staff Accounting Bulletin No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements (SAB No. 108). SAB No. 108 addresses how the effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year financial statements. SAB No. 108 requires companies to quantify misstatements using a balance sheet and income statement approach and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. The Company is required to adopt SAB No. 108 for its annual financial statements for the fiscal year ending December 31, 2006. The Company is currently evaluating the impact of SAB No. 108, but at this time does not expect its adoption to have a material impact on its consolidated financial statements for the fiscal year ending December 31, 2006.
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements (SFAS No. 157), which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. SFAS No. 157 does not require any new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007, with earlier
adoption permitted. The Company is currently evaluating the impact of SFAS No. 157, but at this time does not expect its adoption to have a material impact on its consolidated financial statements.
Accounting Standard Adopted
In December 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123R, Share-Based Payment, which revises SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and requires companies to recognize compensation expense for all equity-based compensation awards issued to employees that are expected to vest. The Company adopted SFAS No. 123R on January 1, 2006, using the Modified Prospective Application method without restatement of 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 for these awards 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.
During the three and nine months ended September 30, 2006, the Company recognized $90,000 and $400,000, respectively, of pre-tax stock-based compensation expense under the fair value method in accordance with SFAS No. 123R. During the three and nine months ended September 30, 2006, the Company recognized a deferred income tax benefit of $32,000 and $151,000, respectively, associated with the compensation expense recognized for these awards. As of September 30, 2006, the Company had $34,000 of unrecognized compensation related to the unvested portion of outstanding stock options awards expected to be recognized through July 2007. As of September 30, 2006, the Company had unrecognized compensation cost of $923,000 related to the unvested portion of its outstanding stock units expected to be recognized over a weighted average remaining service period of 3.2 years.
Forward-Looking Statements
This report contains forward-looking statements within 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 lookingforward-looking statements. Forward-looking statements are not statements of historical facts, but rather reflect our current expectations concerning future events and results. We use words such as “expects”, “intends”, “believes”, “may”, “will”“will,”
“should,” “could,” “anticipates” and “anticipates”similar expressions to indicate forward-looking statements.statements, but their absence does not mean a statement is not forward-looking. Because these forward-looking statements involve risks and uncertainties, there are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements, including, but not limited to, those factors set forth under Item 1A - Risk Factors of the Company’s 2005 Annual Report on Form 10-K for the fiscal year ended December 31, 2006 and those other risks and uncertainties detailed in 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.
33
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, 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 Risk
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, 2005.2006.
Item 4. Controls and Procedures
Disclosure Controls and Procedures
We carried out an evaluation,maintain a comprehensive set of disclosure controls and procedures (as defined in Rules 13a-15(e) and under the Securities Exchange Act of 1934 (“Exchange Act”)) designed to provide reasonable assurance that information required to be disclosed in our filings under the Exchange Act is recorded, processed, summarized and reported accurately and within the time periods specified in the SEC’s rules and forms. Under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, ofwe have evaluated the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13-15(b)as of the Securities Exchange Actend of 1934, as amended.the period covered by this report. Based upon thatthis evaluation, and the material weakness described below, the Chief Executive Officer and Chief Financial Officer concluded that the Company’sdesign and operation of these disclosure controls and procedures were notare effective asin providing reasonable assurance of the date covered by this report.
As discussed more fully in Item 9A of our Annual Report on Form 10-K dated March 16, 2006, for the year ended December 31, 2005, in connection with our audit of our consolidated financial statements for the fiscal year ended December 31, 2005, we determined that the Company’s account reconciliation and management review controls over the accounting for income taxes were not operating effectively becauseachievement of the lack of adequate tax accounting expertise as of December 31, 2005. As a result, there was a material misstatement in the Company’s income tax provision that was corrected prior to the issuance of the consolidated financial statements for the year ended December 31, 2005.objectives described above.
Based on the material weakness described above, management concluded that the Company’s internal control over financial reporting was not effective as of December 31, 2005. This assessment is based on management’s conclusion that as of December 31, 2005, there was more than a remote likelihood that a material misstatement of the Company’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 duringInternal Control Over Financial Reporting
During the nine months ended September 30, 2006, as follows:
· The Company has, subsequent to December 31, 2005, continued to revise its processes and procedures over the accounting for income taxes.
· The Company hired a new Director of Tax on December 31, 2005 who we believe will provide the Company with the necessary technical skills to perform, review and analyze complex tax accounting activities.
We believe these improvements2007, there was no change in our internal controls will enable us to remediate the 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 controlscontrol over financial reporting on an ongoing basis, and will take further action as appropriate. However, there can be no assurance that has materially affected, or is reasonably likely to materially affect, our controls and procedures will prevent or detect material misstatement of the Company’s annual or interiminternal control over financial statements.reporting.
34
None.
The Company has no materialfollowing are additions and changes to the disclosure on this matter maderisk factors set forth in itsour Annual Report on Form 10-K for the fiscal year ended December 31, 2005.2006, and should be read in conjunction with such risk factors:
Acquisitions are part of our growth strategy and might not be successful.
We expect to continue to pursue selective acquisitions of businesses as part of our growth strategy. Acquisitions may bring us into businesses we have not previously conducted and expose us to risks that are different than those we have traditionally experienced. We can provide no assurances that we will be able to find suitable acquisitions or that we will be able to consummate them on terms and conditions favorable to us, or that we will successfully integrate and manage acquired businesses.
During 2007, we have completed the acquisitions of Via, Smallpeice and certain assets and the business of Sandy. While we believe that all of these acquisitions will be accretive to our earnings and we will be able to integrate their operations into our business successfully, we can provide no assurances that our expectations will prove to be accurate. Sandy’s business, in particular, is heavily oriented toward providing sales training to auto manufacturers in the U.S. domestic automotive industry. Developments in that industry, as well as certain unforeseen factors or other risks may cause our actual results to differ from our expectations.
Difficulties in integrating acquired businesses could result in reduced revenues and income.
We may not be able to integrate successfully any business we have acquired or could acquire in the future. The integration of the businesses will be complex and time consuming, will place a significant strain on management, administrative services personnel and our information systems, and this strain could disrupt our businesses. Furthermore, we could be adversely impacted by unknown liabilities of acquired businesses. We could encounter substantial difficulties, costs and delays involved in integrating common accounting, information and communication systems, operating procedures, internal controls and human resources practices, including incompatibility of business cultures and the loss of key employees and customers. These difficulties could reduce our ability to gain customers or retain existing customers, and could increase operating expenses, resulting in reduced revenues and income and a failure to realize the anticipated benefits of acquisitions.
We have made several acquisitions during the past two years. As a result of these transactions, our past performance is not indicative of future performance, and investors should not base their expectations as to our future performance on our historical results.
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 September 30, 2006:2007:
| Issuer Purchases of Equity Securities |
| |||||||||
|
|
|
|
|
| Total number |
| Approximate |
| ||
|
|
|
|
|
| of shares |
| dollar value of |
| ||
|
| Total number |
| Average |
| purchased as |
| shares that may yet |
| ||
|
| of shares |
| price paid |
| part of publicly |
| be purchased under |
| ||
Month |
| purchased |
| per share |
| announced program |
| the program |
| ||
July 1-31, 2006 |
| — |
| — |
| — |
| — |
| ||
August 1-31, 2006 |
| 37,700 | (1) | $ | 7.31 |
| 37,700 |
| $ | 3,075,000 |
|
September 1-30, 2006 |
| — |
| — |
| — |
| — |
| ||
|
| Issuer Purchases of Equity Securities |
| ||||||
|
|
|
|
|
| Total number |
| Approximate |
|
|
|
|
|
|
| of shares |
| dollar value of |
|
|
| Total number |
| Average |
| purchased as |
| shares that may yet |
|
|
| of shares |
| price paid |
| part of publicly |
| be purchased under |
|
Month |
| purchased |
| per share |
| announced program (1) |
| the program |
|
July 1-31, 2007 |
| — |
| — |
| — |
| — |
|
August 1-31, 2007 |
| 63,600 |
| $10.04 |
| 63,600 |
| $4,882,000 |
|
September 1-30, 2007 |
| 46,700 |
| $11.01 |
| 46,700 |
| $4,368,000 |
|
(1)Represents shares repurchased in the open market in connection with the Company’s share repurchase program under which the Company may repurchase up to $5$10 million of its common stock from time to time in the open market subject to prevailing business and market conditions and other factors. ThisThe original $5 million buyback program was authorized by the Company’s Board of Directors and was publicly announced on January 19, 2006.2006, and an additional $5 million of repurchases was authorized and announced in August 2007. There is no expiration date for the repurchase program.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
On September 14, 2006, the Company held its annual meeting of shareholders. At that meeting, the following matters were voted upon:None.
1. All of the Directors nominated by the Company were elected as follows:
| Common Shares Cast: |
| |||
|
| For |
| Withheld |
|
Harvey P. Eisen |
| 13,799,916 |
| 140,201 |
|
Jerome I. Feldman |
| 9,453,863 |
| 4,486,254 |
|
Marshall S. Geller |
| 13,247,710 |
| 692,407 |
|
Scott N. Greenberg |
| 13,789,864 |
| 150,253 |
|
Richard C. Pfenniger, Jr. |
| 13,483,732 |
| 456,385 |
|
Ogden R. Reid |
| 11,536,762 |
| 2,403,355 |
|
2. The elimination of the authorized shares of Class B Capital Stock by amendment to the Amended and Restated Certificate of Incorporation was approved. With respect to holders of common stock, the number of affirmative votes cast was 13,835,524, the number of votes cast against was 43,536, and the number of abstentions was 61,057.
3. The ratification of KPMG LLP as independent auditors was approved. With respect to holders of common stock, the number of affirmative votes cast was 13,841,232, the number of votes cast against was 47,494, and the number of abstentions was 51,391.
None.
35
3.110.1 CertificateAmendment, dated June 20, 2007, to Employment Agreement dated as of July 1, 1999 between the Company and Scott N. Greenberg. Incorporated herein by reference to Exhibit 10.1 of the Registrant’s Form 8-K filed on June 26, 2007.
10.2Amendment, dated June 20, 2007, to Employment Agreement dated as of Restated CertificateJuly 1, 1999 between the Company and Douglas E. Sharp. Incorporated herein by reference to Exhibit 10.2 of Incorporationthe Registrant’s Form 8-K filed on June 26, 2007.
10.3 Form of GP Strategies Corporation.Employment Agreement between the Company and certain of its executive vice presidents. Incorporated herein by reference to Exhibit 10.1 of the Registrant’s Form 8-K filed on October 4, 2007.
10.4 Form of Employment Agreement between General Physics Corporation and certain of its senior vice presidents.*
31.1 Certification of Chief Executive Officer of the Company dated November 9, 20068, 2007 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 November 9, 20068, 2007 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 November 9, 20068, 2007 pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*
_____________
*Filed herewith
31
36
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
GP STRATEGIES CORPORATION | ||||
|
| |||
|
| |||
November | /s/ Scott N. Greenberg |
| ||
| Chief Executive Officer | |||
|
| |||
|
| |||
| /s/ Sharon Esposito-Mayer |
| ||
| Executive Vice President and Chief Financial Officer | |||
3237