UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM10-Q

(Mark One)

FOR THE QUARTER ENDED MARCH 31,JUNE 30, 2017

Commission File Number000-51579

NCI, Inc.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code:(703) 707-6900

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    ☐  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 ofRegulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    ☒  Yes    ☐  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” inRule 12b-2 of the Exchange Act. (Check one):

Indicate by check mark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act).    ☐  Yes    ☒  No

Indicate by check mark whether the registrant is an emerging growth company as defined in Rule 405 of the Securities Act of 1933 (§230.405 of this chapter) or Rule 12b-2 of the Securities Exchange Act of 1934 (§240.12b-2 of this chapter).

Emerging growth company  ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

As of May 3,August 1, 2017, there were 9,051,8179,116,817 shares outstanding of the registrant’s Class A common stock. In addition, there were 4,500,000 shares outstanding of the registrant’s Class B common stock, which are convertible on aone-for-one basis into shares of the registrant’s Class A common stock.

NCI, INC.

PART 1

FINANCIAL INFORMATION

Item 1. Condensed Consolidated Financial Statements

NCI, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONSINCOME

(UNAUDITED)

(in thousands, except per share data)

The accompanying notes are an integral

part of these condensed consolidated financial statements

NCI, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

(in thousands, except par value)

The accompanying notes are an integral

part of these condensed consolidated financial statements

NCI, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(in thousands)

The accompanying notes are an integral

part of these condensed consolidated financial statements

NCI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1. Basis of Presentation

The accompanying unaudited condensed consolidated financial statements of NCI, Inc. and its subsidiaries (“NCI” or “the Company”) have been prepared in accordance with generally accepted accounting principles in the U. S. (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). As a result, certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted. In the opinion of management, the accompanying unaudited interim condensed consolidated financial statements reflect all adjustments necessary to fairly present the Company’s financial position as of March 31,June 30, 2017 and its results of operations for the three and six months ended June 30, 2017 and 2016, and cash flows for the threesix months ended March 31,June 30, 2017 and 2016, which consist of normal and recurring adjustments. The information disclosed in the notes to the financial statements for these periods is unaudited. The current period’s results of operations are not necessarily indicative of results that may be achieved for any future period. All numbers in tables are presented in thousands except share and per share numbers. For further information, refer to the financial statements and footnotes included in NCI’s Annual Report on Form10-K for the year ended December 31, 2016, as filed with the SEC.

Recently Issued Accounting Pronouncements

In March 2016, the FASB issued ASU2016-09, which simplifies several aspects of the accounting for share-based payments, including immediate recognition of all excess tax benefits and deficiencies in the income statement, changing the threshold to qualify for equity classification up to the employees’ maximum statutory tax rates, allowing an entity-wide accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures as they occur, and clarifying the classification on the statement of cash flows for the excess tax benefit and employee taxes paid when an employer withholds shares fortax-withholding purposes. The Company adopted ASU2016-09 effective January 1, 2017 on a prospective basis. The Company elected to continue to estimate the number of awards that are expected to vest.

2. Business Overview

NCI is a leading provider of enterprise solutions and services to U.S. defense, intelligence, health care and civilian government agencies. We have the expertise and proven track record to solve our customers’ most important and complex mission challenges through technology and innovation. Our team of highly skilled professionals focuses on delivering cost-effective solutions and services in the areas of agile software application and systems development/integration; cybersecurity and information assurance; engineering and logistics support; enterprise information management and advanced analytics; cloud computing and IT infrastructure optimization; health IT and medical support; IT service management; and modeling, simulation and training. Headquartered in Reston, Virginia, we havethe Company has approximately 2,000 employees operating at more than 100 locations worldwide. The majority of the Company’s revenue was derived from contracts with the U.S. Federal Government, directly as a prime contractor or as a subcontractor. NCI primarily conducts business throughout the U. S. The Company reports operating results and financial data as one reportable segment.

For the three and six months ended March 31,June 30, 2017, the Company generated approximately 61%62% of revenue from the Department of Defense, including agencies within the intelligence community, and approximately 39%38% of revenue from federal civilian agencies. For the three and six months ended March 31,June 30, 2016, the Company generated approximately 63%64% of revenue from the Department of Defense, including agencies within the intelligence community, and approximately 37%36% of revenue from federal civilian agencies.

NCI’s Program Executive Office Soldier (“PEO Soldier”) contract is the Company’s largest revenue-generating contract and accounted for approximately 16% and 17% of revenue for the three months ended March 31,June 30, 2017 and 2016, respectively. The Company’s PEO Soldier program is a cost-plus fee contract consisting of a base period and four option periods for a total term of five years, which commenced in October 1, 2015. NCI’s Cyber Network Operations and Security Support (“CNOSS”) program, supporting the U.S. Army Network Enterprise Technology Command accounted for approximately 12% and 10%11% of revenue for the three months ended March 31,June 30, 2017 and 2016, respectively.2016. Thiscost-plus-fixed-fee, single award indefinite delivery indefinite quantity contract consists of a12-month base period with twoone-year option periods and onesix-month option period, and commenced in October 2014.

3. Misappropriation Loss and Related Expenses

As previously disclosed, in January 2017, the Company identified a misappropriation of Company funds by its former controller. An internal investigation of the matter was completed in March 2017, and revealed that the former controller had embezzled $19.4 million through a circumvention of controls, which included transfers from the payroll account to his personal account, creating fictitious invoices, and altering bank account statements to conceal the misappropriations. Misappropriation loss and related expenses totaled approximately $6.6$2.2 million and $1.5$1.4 million for the quarterthree months ended March 31,June 30, 2017 and 2016, respectively and approximately $8.9 and $2.9 for the six months ended June 30, 2017 and 2016, respectively. Misappropriation loss and related expenses includes the loss due to embezzled funds as well as external professional service fees including legal, forensic accounting, audit and other consulting fees.

4. (Loss) Earnings Per Share

Basic (loss) earnings per share exclude dilution and are computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted (loss) earnings per share reflect potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. Diluted (loss) earnings per share include the incremental effect of stock options calculated using the treasury stock method. Shares that are anti-dilutive are not included in the computation of diluted (loss) earnings per share. For the three months ended March 31,June 30, 2017 and 2016, approximately 820,00027,000 and 30,0008,000 shares, respectively, were not included in the computation of diluted (loss)earnings per share, because to do so would have been anti-dilutive. For the six months ended June 30, 2017 and 2016, approximately 52,000 and 4,000 shares, respectively, were not included in the computation of diluted earnings per share, because to do so would have been anti-dilutive. The following table details the computation of basic and diluted (loss) earnings per common share (Class A and Class B) for the three months ended March 31,June 30, 2017 and 2016.

5. Accounts Receivable

Accounts receivable consists of billed and unbilled amounts. The following table details accounts receivable at the end of each period:

		As of
		June 30, 2017				December 31, 2016
Billed receivables		$	24,376			$	19,367
Unbilled receivables:
Amounts billable at end of period			26,505				25,484
Other			7,727				7,003
Total unbilled receivables			34,232				32,487
Total accounts receivable			58,608				51,854
Less: Allowance for doubtful accounts			742				742
Total accounts receivable, net		$	57,866			$	51,112

Other unbilled receivables primarily consist of amounts that will be billed upon milestone completions and other accrued amounts that cannot be billed as of the end of the period. Substantially all unbilled receivables are expected to be billed and collected within the next 12 months.

6. Property and Equipment

The following table details property and equipment at the end of each period:

Depreciation and amortization expense for the three months ended March 31,June 30, 2017 and 2016 was $0.9 million and $0.8 million, respectively. Depreciation and amortization expense for the six months ended June 30, 2017 and 2016 was $1.7 million.

7. Intangible Assets

The following table details intangible assets at the end of each period:

Amortization expense of intangible assets for the three months ended March 31,June 30, 2017 and 2016 was $0.9 million. Amortization expense of intangible assets for the six months ended June 30, 2017 and 2016 was $1.8 million. Intangible assets are primarily amortized on a straight line basis over periods ranging from seven to 11 years. Expected amortization expense for the remainder of the fiscal year ending December 31, 2017, and for each of the fiscal years thereafter, is as follows:

8. Share-Based Payments

During the three and six months ended March 31,June 30, 2017, the Company did not grant anygranted 94,000 non-qualified stock options to purchase shares of Class A common stock.stock with a weighted average exercise price of $16.66. During the three months ended March 31,June 30, 2017, 12,50080,000 stock options were exercised at a weighted-average price of $10.13.$5.55. During the six months ended June 30, 2017, 92,500 stock options were exercised at a weighted-average price of $6.17. As of March 31,June 30, 2017, there were approximately 1,000,000934,000 stock options outstanding.outstanding with a weighted average exercise price of $8.47. During the three months ended March 31,June 30, 2017, no30,000 shares of restricted sharesstock were granted and 20,000 shares of restricted stock were cancelled or forfeited. During the six months ended June 30, 2017, 30,000 shares of restricted stock were granted and 91,080 shares of restricted stock were cancelled or forfeited. During the three and six months ended June 30, 2017, zero and 21,253 shares of restricted shares vested.stock vested, respectively. As of March 31,June 30, 2017, there were 236,167246,167 shares of restricted stock outstanding.

The following table summarizes stock compensation expense allocated to cost of revenue and general and administrative costs for the three and six months ended March 31,June 30, 2017 and 2016:

As of March 31,June 30, 2017, there was approximately $3.0$3.5 million of total unrecognized compensation cost related to unvested stock compensation arrangements. This cost is expected to be fully amortized over the next five years, with approximately $0.6 million, $1.1 million, $0.8 million, $0.9 million, $0.6 million, $0.5$0.7 million and $0.2$0.3 million amortized during the remainder of 2017, and the full years of 2018, 2019, 2020, and 2021, respectively. The cost of stock compensation is included in the Company’s Condensed Consolidated Statements of OperationsIncome and expensed over the service period of the equity awards.

On January 6, 2017, pursuant to the terms of the Separation Agreement entered into on November 29, 2016 between the Company and Marco de Vito, our former Chief Operating Officer, the Company paid Mr. de Vito $2.1 million for the repurchase of 272,000 vested stock options, which repurchase representsrepresented the difference between the closing price on the date of the agreement and the exercise priceprices of the vested options. The Company recorded the payment as a reduction to additional paid-in capital in the Condensed Consolidated Balance Sheet.

9. Debt

On January 31,May 25, 2017, the Company entered into the FourthFifth Amendment (the “Amendment”) to the Amended and Restated Loan and Security Agreement, dated December 13, 2010, as amended by and among the Company and its subsidiaries, SunTrust Bank, which acted as administrative agent for the lenders, the lenders named therein and the other parties thereto (the “Credit Agreement”). The Amendment modifies certain provisions of the Credit Agreement to, among other things:

The outstanding borrowings are collateralized by a security interest in substantially all of the Company’s assets. The lenders also require a direct assignment of all contracts at the lenders’ discretion. The outstanding balance under the Credit Agreement accrues interest based onone-month LIBOR plus an applicable margin, ranging from 210 to 310 basis points, based on the ratio of our outstanding senior funded debt to Earnings before Interest, Taxes, Depreciation, and Amortization (“EBITDA”)EBITDA as defined in the Credit Agreement.

Our Credit Agreement (i) restricts our ability to repurchase or redeem our capital stock, or merge or consolidate with another entity; (ii) limits our ability to borrow additional funds or to obtain other financing in the future for working capital, capital expenditures, acquisitions, investments and general corporate purposes; and (iii) limits our ability to dispose of our assets, to create liens on our assets, to extend credit or to issue dividends to our stockholders.

ForDuring the firstsecond quarter of 2017 and 2016, the Company had a weighted average outstanding loan balance of $2.9$3.4 million and $16.5$16.4 million, respectively, and a weighted average borrowing rate of 2.9%3.1% and 2.5%2.3%, respectively.

As of March 31,June 30, 2017, thethere was no outstanding balance under the credit facility was $2.0 millionCredit Agreement and interest accrued at a rate ofone-month LIBOR plus 210 basis points, or 2.9%.

As of March 31, 2017, the Company was in compliance with all ourits loan covenants.

10. Income Taxes

As of March 31,June 30, 2017, the Company accrued interest expense related to uncertain tax positions totaling $0.7$0.8 million. During the three and six months ended March 31,June 30, 2017, the Company recorded $0.1 million and $0.1 million, respectively in interest expense related to its uncertain tax positions in Interest Expense in the Consolidated Statements of Operations.Income.

11. Leases

In March 2017, the Company executed the sixth amendment to the corporate office lease agreement (“the Lease Amendment”). The Lease Amendment extended the termination date to October 31, 2027 and provided certain rent abatement, tenant allowances, and adjustments to base rent. Minimum lease payments under the Lease Amendment are as follows:

12. Dividends

The Company’s Board of Directors declared and the Company paid the following dividends during the periods presented:

13. Related Party Transactions

The Company purchased services under a subcontract from Renegade Technology Systems, Inc., which is a government contractor wholly-owned by Rajiv Narang, the son of Charles K. Narang, Chairman of the Board of Directors. For the three months ended March 31,June 30, 2017 and 2016, the expense incurred under this agreement was approximately $0.4$0.6 million and $0.2 million, respectively. For the six months ended June 30, 2017 and 2016, the expense incurred under this agreement was approximately $1.0 million and $0.4 million, respectively. As of March 31,June 30, 2017 and 2016, outstanding amounts due to Renegade Technology Systems, Inc. under this agreement were $0.3$0.2 million and $0.1 million, respectively.

14. Contingencies

Government Audits

Payments to the Company on U.S. Federal Government contracts are subject to adjustment upon audit by various agencies of the U.S. Federal Government. Audits of costs and the related payments have been performed through 2009 for NCI Information Systems, Inc., the Company’s primary corporate vehicle for government contracting. In the opinion of management, the final determination of costs and related payments for unaudited years will not have a material effect on the Company’s financial position, results of operations, or liquidity.

Litigation

Civil Suit Against Former Controller

As previously disclosed on January 23, 2017, the Company commenced an internal investigation upon discovering that its former controller, Jon Frank, had been embezzling money from the Company. Upon completion of the internal investigation, the Company determined that the actual amount of the embezzlement by Mr. Frank during the period from January 2010 through 2017 was approximately $19.4 million. The Company believes that Mr. Frank acted alone and found no evidence that any other NCI employee was aware of or colluded in the embezzlement of Company funds and found no evidence of any unlawful activity apart from that associated with Mr. Frank’s embezzlement of Company funds.

On January 23, 2017, the Company filed a lawsuit against Mr. Frank in the Circuit Court of Fairfax County in the State of Virginia to recover the embezzled funds.

On February 2, 2017, the Honorable Chief Judge White entered an Order for Preliminary Injunction and Asset Freeze (the “Preliminary Injunction”) against Mr. Frank. Among other things, the Preliminary Injunction placed an immediate freeze on all monies and assets of Mr. Frank and ordered Mr. Frank to prepare and deliver to the Company an accounting of his personal assets. In addition, pursuant to the Preliminary Injunction, Mr. Frank agreed to cooperate with the Company to identify, recover and return to the Company all assets that he obtained wrongfully or acquired with wrongfully-obtained funds.

Government Agency Investigations

In connection with the discovery of Mr. Frank’s embezzlement of money from the Company, the Company self-reported such matter to the U.S. Securities and Exchange Commission (“SEC”)SEC and the civil and criminal divisions of the U.S. Department of Justice (“DOJ”).

By letter to the Company dated February 1, 2017, the DOJ has identified the Company as a possible victim of Mr. Frank’s conduct. On February 8, 2017, the SEC commenced a formal investigation and has served the Company with a subpoena requesting certain documents and information relevant to the embezzlement of Company funds by Mr. Frank. The Company is cooperating fully with the DOJ and the SEC in connection with their respective investigations, which are ongoing.

The United States Attorney’s Office for the Eastern District of Virginia (“USAO EDVA”) has opened a civil fraud investigation into the impact of Mr. Frank’s conduct on the Company’s government contracts. The Company is cooperating fully with the USAO EDVA and the Inspectors General of relevant government agencies in connection with this investigation, which is ongoing. At this time, we do not have an estimate of the financial impact on the Company, if any, of the investigation being conducted by the USAO EDVA.

15. Subsequent Events

Other Legal ProceedingsAcquisition of NCI by Affiliates of H.I.G. Capital, LLC

On July 2, 2017, NCI entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Cloud Intermediate Holdings, LLC, a Delaware limited liability company (“Parent”), and Cloud Merger Sub, Inc., a Delaware corporation and a wholly owned subsidiary of Parent (“Purchaser”). Parent and Purchaser are beneficially owned by affiliates of H.I.G. Capital, LLC (together with Parent and Purchaser, “HIG”).

Pursuant to the terms of the Merger Agreement, on July 17, 2017, Purchaser commenced a tender offer (the “Offer”) to purchase all of the outstanding shares of Class A common stock, par value $0.019 per share, and Class B common stock, par value $0.019 per share, of NCI (the “Shares”), at a price of $20.00 per Share, net to the seller thereof in cash, without interest (such amount, as it may be adjusted pursuant to the terms of the Merger Agreement, the “Offer Price”), and subject to deduction for any required withholding of taxes. The initial expiration date of the Offer is 12:00 midnight, New York City time, on August 11, 2017 (which is the end of the day on August 11, 2017), subject to extension in certain circumstances as required or permitted by the Merger Agreement.

The consummation of the Offer is subject to customary closing conditions, including, among other things: (i) there having been validly tendered and not validly withdrawn prior to the expiration of the Offer that number of Shares representing at least a majority of the voting power of the Shares then outstanding on a fully diluted basis (assuming that the shares of Class B common stock will convert to shares of Class A common stock upon consummation of the Offer); (ii) the expiration or termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (which condition was satisfied on July 27, 2017); (iii) the accuracy of NCI’s representations and warranties, as of the expiration of the Offer, subject to certain qualifications set forth in the Merger Agreement; and (iv) other customary conditions to the Offer set forth in Annex A to the Merger Agreement. The transaction will be financed through a combination of equity financing in an amount not less than $130.0 million that has been committed by H.I.G. Middle Market LBO Fund II, L.P., an affiliate of HIG, and debt financing in an aggregate amount of $197.5 million that has been committed by KKR Credit Advisors (US) LLC. The consummation of the Offer and the Merger is not subject to any financing condition.

Following the consummation of the Offer, and subject to the satisfaction or waiver of the conditions set forth in the Merger Agreement, Purchaser will be merged with and into NCI, with NCI continuing as the surviving corporation and a wholly owned subsidiary of Parent (the “Merger”). The Merger Agreement provides that the Merger will be effected pursuant to Section 251(h) of the Delaware General Corporation Law (the “DGCL”), without a vote of the stockholders of NCI.

At the effective time of the Merger (the “Effective Time”), each Share that is outstanding immediately prior to the Effective Time, other than the Shares owned by NCI, Parent or Purchaser, or by stockholders who have validly exercised and perfected their appraisal rights under the DGCL, will be canceled and converted into the right to receive the Offer Price, payable to the holder thereof on the terms and subject to the conditions set forth in the Merger Agreement.

In addition, at the Effective Time, (i) each outstanding option to purchase Shares (each, a “Company Option”), whether or not then exercisable or vested, will be canceled and converted into the right to receive from Parent or NCI an amount in cash equal to (a) the excess, if any, of (1) the Offer Price minus (2) the exercise price of such Company Option, multiplied by (b) the number of Shares subject to such Company Option, and (ii) each outstanding award of restricted Shares (each, a “Company RSA”) (which shall be deemed to be fully vested) will be canceled and converted into the right to receive an amount in cash equal to the product of (a) the Offer Price and (b) the number of Shares subject to such Company RSA.

NCI, Parent and Purchaser have made customary representations, warranties and covenants in the Merger Agreement. NCI’s covenants include, among other things, covenants regarding the operation of NCI’s business prior to the Effective Time and covenants not to solicit third party proposals relating to alternative transactions or provide information or enter into discussions in connection with alternative transactions, subject to exceptions to permit the Board of Directors to comply with its fiduciary duties.

The Merger Agreement also includes customary termination rights in favor of each of NCI and Parent. NCI has agreed to pay Parent a termination fee of $11.3 million if, among other circumstances, NCI terminates the Merger Agreement in compliance with its terms in order to accept a superior proposal or if Parent terminates the Merger Agreement because the Board of Directors has changed its recommendation to NCI’s stockholders with respect to the Offer or NCI has willfully and materially breached its obligations not to solicit third party proposals relating to alternative transactions. Parent has agreed to pay NCI a termination fee of $19.7 million if NCI terminates the Merger Agreement because Parent has extended the Offer due to unavailability of its debt financing as of the expiration of the Offer or because, when all conditions to the Offer are satisfied, the full proceeds of the debt financing are not available to Parent, and as a result, Parent fails to consummate the Offer within three business days following the expiration of the Offer.

Transaction Litigation

The Company and members of NCI’s Board of Directors are named as defendants in three putative class action lawsuits, all filed in the United States District Court for the Eastern District of Virginia, challenging the Transaction, one of which also names Parent and Purchaser as defendants. The first suit was filed on July 19, 2017 and is partydocketed asElliot Schwartz v. NCI, Inc., Charles K. Narang, Paul A. Dillahay, James P. Allen, Paul V. Lombardi, Cindy E. Moran, Austin J. Yerks and Daniel R. Young,Case No. 1:17-CV-00816-LO-TCB (the “Schwartz Action”). The second suit was filed on July 21, 2017 and is docketed asColleen Witmer v. NCI, Inc., Charles K. Narang, Paul A. Dillahay, James P. Allen, Paul V. Lombardi, Cindy E. Moran, Austin J. Yerks, Daniel R. Young, H.I.G. Capital, L.L.C., Cloud Intermediate Holdings, L.L.C., and Cloud Merger Sub, Inc.,Case No. 1:17-CV-00838-LO-JFA (the “Witmer Action”). The third suit was filed on July 25, 2017 and is docketed asDeborah A. Nichols v. NCI, Inc., Charles K. Narang, Paul A. Dillahay, Daniel R. Young, Paul Lombardi, James P. Allen, Cindy E. Moran and Austin J. Yerks,Case No. 1:17-CV-00839-LO-MSN (the “Nichols Action”). Each of the Schwartz Action, the Witmer Action and the Nichols Action allege that NCI and the members of NCI’s Board of Directors violated Section 14 of the Exchange Act by issuing a Schedule 14D-9 that was materially misleading and omitted material facts related to various legal actions, claims, government inquiries,the Offer and audits resulting from the normal courseMerger. Each of business. The Company believesthe Schwartz Action, the Witmer Action and the Nichols Action also allege that the probability is remote that any resulting liability will have a material effect onmembers of NCI’s Board of Directors violated Section 20(a) of the Company’s financial position, resultsExchange Act, as controlling persons who had the ability to prevent the Schedule 14D-9 from being materially false and misleading. Each of operations, or liquidity.the Schwartz Action, the Witmer Action and the Nichols Action seek, among other things, an injunction against the consummation of the proposed Offer and Merger and an award of costs for the actions, including reasonable attorneys’ and experts’ fees.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This Quarterly Report on Form10-Q, including the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding our business, financial condition, results of operations, and prospects. There are statements made herein, which may not address historical facts and, therefore, could be interpreted to be forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995. Such statements are subject to factors that could cause actual results to differ materially from anticipated results. The factors that could cause actual results to differ materially from those anticipated include, but are not limited to, the following:

Some of these important factors are outlined under Item 1A. Risk Factors and elsewhere in our Annual Report on Form10-K for the year ended December 31, 2016, as filed with the Securities and Exchange Commission (“SEC” or the “Commission”), and from time to time in other filings with the SEC, such as our Current Reports on Forms8-K and Quarterly Reports on Form10-Q. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee our future results, level of activity, or performance. We undertake no obligation to update publicly or revise any forward-looking statements. You should not place undue reliance on any forward-looking statements.

In this document, unless the context indicates otherwise, the terms “Company,” “NCI,” “we,” “us,” and “our” refer to NCI, Inc., a Delaware corporation, and, where appropriate, its subsidiaries.

OVERVIEW

We are a provider of information technology (“IT”) and professional services and solutions primarily to U.S. Federal Government agencies. Our technology and industry expertise enables us to provide a wide spectrum of services and solutions that assist our customers in achieving their program goals. We deliver these complex services and solutions by leveraging our skills across six core capabilities:

Our team of highly skilled professionals is committed to service excellence and delivers innovative, cost-effective enterprise services and solutions on time and within budget. We are focused on reshaping the way services and solutions are delivered to our customers in order to proactively understand and meet their mission needs and enable them to rapidly adapt to dynamic environments. Headquartered in Reston, Virginia, the Company currently operates in more than 100 locations around the globe.

Recent Developments

On July 2, 2017, NCI entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Cloud Intermediate Holdings, LLC, a Delaware limited liability company (“Parent”), and Cloud Merger Sub, Inc., a Delaware corporation and a wholly owned subsidiary of Parent (“Purchaser”). Parent and Purchaser are beneficially owned by affiliates of H.I.G. Capital, LLC (together with Parent and Purchaser, “HIG”).

Pursuant to the terms of the Merger Agreement, on July 17, 2017, Purchaser commenced a tender offer (the “Offer”) to purchase all of the outstanding shares of Class A common stock, par value $0.019 per share, and Class B common stock, par value $0.019 per share, of NCI (the “Shares”), at a price of $20.00 per Share, net to the seller thereof in cash, without interest (such amount, as it may be adjusted pursuant to the terms of the Merger Agreement, the “Offer Price”), and subject to deduction for any required withholding of taxes. The initial expiration date of the Offer is 12:00 midnight, New York City time, on August 11, 2017 (which is the end of the day on August 11, 2017), subject to extension in certain circumstances as required or permitted by the Merger Agreement.

The consummation of the Offer is subject to customary closing conditions, including, among other things: (i) there having been validly tendered and not validly withdrawn prior to the expiration of the Offer that number of Shares representing at least a majority of the voting power of the Shares then outstanding on a fully diluted basis (assuming that the shares of Class B common stock will convert to shares of Class A common stock upon consummation of the Offer); (ii) the expiration or termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (which condition was satisfied on July 27, 2017); (iii) the accuracy of NCI’s representations and warranties, as of the expiration of the Offer, subject to certain qualifications set forth in the Merger Agreement; and (iv) other customary conditions to the Offer set forth in Annex A to the Merger Agreement. The transaction will be financed through a combination of equity financing in an amount not less than $130,000,000 that has been committed by H.I.G. Middle Market LBO Fund II, L.P., an affiliate of HIG, and debt financing in an aggregate amount of $197,500,000 that has been committed by KKR Credit Advisors (US) LLC. The consummation of the Offer and the Merger is not subject to any financing condition.

Following the consummation of the Offer, and subject to the satisfaction or waiver of the conditions set forth in the Merger Agreement, Purchaser will be merged with and into NCI, with NCI continuing as the surviving corporation and a wholly owned subsidiary of Parent (the “Merger”). The Merger Agreement provides that the Merger will be effected pursuant to Section 251(h) of the Delaware General Corporation Law (the “DGCL”), without a vote of the stockholders of NCI.

At the effective time of the Merger (the “Effective Time”), each Share that is outstanding immediately prior to the Effective Time, other than the Shares owned by NCI, Parent or Purchaser, or by stockholders who have validly exercised and perfected their appraisal rights under the DGCL, will be canceled and converted into the right to receive the Offer Price, payable to the holder thereof on the terms and subject to the conditions set forth in the Merger Agreement.

In addition, at the Effective Time, (i) each outstanding option to purchase Shares (each, a “Company Option”), whether or not then exercisable or vested, will be canceled and converted into the right to receive from Parent or NCI an amount in cash equal to (a) the excess, if any, of (1) the Offer Price minus (2) the exercise price of such Company Option, multiplied by (b) the number of Shares subject to such Company Option, and (ii) each outstanding award of restricted Shares (each, a “Company RSA”) (which shall be deemed to be fully vested) will be canceled and converted into the right to receive an amount in cash equal to the product of (a) the Offer Price and (b) the number of Shares subject to such Company RSA.

NCI, Parent and Purchaser have made customary representations, warranties and covenants in the Merger Agreement. NCI’s covenants include, among other things, covenants regarding the operation of NCI’s business prior to the Effective Time and covenants not to solicit third party proposals relating to alternative transactions or provide information or enter into discussions in connection with alternative transactions, subject to exceptions to permit the Board of Directors to comply with its fiduciary duties.

The Merger Agreement also includes customary termination rights in favor of each of NCI and Parent. NCI has agreed to pay Parent a termination fee of $11,256,000 if, among other circumstances, NCI terminates the Merger Agreement in compliance with its terms in order to accept a superior proposal or if Parent terminates the Merger Agreement because the Board of Directors has changed its recommendation to NCI’s stockholders with respect to the Offer or NCI has willfully and materially breached its obligations not to solicit third party proposals relating to alternative transactions. Parent has agreed to pay NCI a termination fee of $19,698,000 if NCI terminates the Merger Agreement because Parent has extended the Offer due to unavailability of its debt financing as of the expiration of the Offer or because, when all conditions to the Offer are satisfied, the full proceeds of the debt financing are not available to Parent, and as a result, Parent fails to consummate the Offer within three business days following the expiration of the Offer.

Key Financial Metrics

Prime Contractor Revenue

The following table shows our revenue derived from contracts on which we serve as a prime contractor.

		Three months ended June 30,								Six months ended June 30,
		2017				2016				2017				2016
Revenue derived from prime contracts			93	%			94	%			92	%			94	%

Customer Group Revenue

The following table shows our revenue from the customer groups listed as a percentage of total revenue for the periods shown.

Contract Type Revenue

Our services and solutions are provided under three types of contracts:time-and-materials; cost-plus fee; and firm fixed-price. Our contract mix varies from year to year due to numerous factors including our business strategies and U.S. Federal Government procurement objectives.

The following table shows our revenue from each of these types of contracts as a percentage of our total revenue for the periods shown.

The amount of risk and potential reward varies under each type of contract. Undertime-and-materials contracts, we are paid a fixed hourly rate by labor category. To the extent that our actual labor costs vary significantly from the negotiated hourly rates, we may generate more or less than the targeted amount of profit. We are typically reimbursed for other contract direct costs and expenses at our cost, and typically receive no fee on those costs. For cost-plus fee contracts, there is limited financial risk, because we are reimbursed all our allowable costs, therefore the profit margins tend to be lower on cost-plus fee contracts. Under firm fixed-price contracts, we perform specific tasks or provide specified goods for a predetermined price. Compared totime-and-materials and cost-plus fee contracts, firm fixed-price service contracts generally offer higher profit margin opportunities but involve greater financial risk because we would bear the impact of potential cost overruns in return for the full benefit of any cost savings. The increase in the percentage of revenue generated on our firm fixed-price contracts is primarily the result of new firm fixed-price contracts awarded in 2016.

Contract Backlog

We define backlog as our estimate of the remaining future revenue from existing signed contracts over the remaining base contract performance period and from the option periods of those contracts that we believe are more likely than not to be exercised. Our backlog does not include any estimate of future potential delivery orders that might be awarded under our GWAC, agency-specific IDIQ, or other multiple-award contract vehicles. We define funded backlog as the portion of backlog for which funding currently is appropriated and obligated to us under a contract or other authorization for payment signed by an authorized purchasing agency, less the amount of revenue we have previously recognized. Our funded backlog does not represent the full potential value of our contracts, as Congress often appropriates funds for a particular program or agency on a quarterly or yearly basis, even though the contract may provide for the provision of services over a number of years. We define unfunded backlog, not included above, as the total backlog less the funded backlog. Unfunded backlog includes values for contract options that have been priced but not yet funded. Additional information on how we determine backlog is included in our Annual Report on Form10-K for the year ended December 31, 2016, as filed with the SEC.

Results of Operations

Three Months Ended March 31,June 30, 2017 Compared to Three Months Ended March 31,June 30, 2016

The following table sets forth certain items from our consolidated statements of operationsincome and expresses each item in dollars and as a percentage of revenue for the periods indicated:

Revenue

For the three months ended March 31,June 30, 2017, revenue decreasedincreased by 5.9%9.7%, or $4.9$7.9 million, over the same period a year ago. This decreaseincrease is principally due to revenue derived from new contract awards and additional task orders on the expanded Cyber Network Operations and Security Support (“CNOSS”) program, offset by decreased revenues from contracts completed in 2016 and reductions in staffing and scope of work on certain other contracts, offset by increased revenues from additional task orders on the expanded CNOSS program, and revenue derived from new contract awards.contracts.

NCI’s Program Executive Office Soldier (“PEO SoldierSoldier”) program accounted for $12.5$14.0 million, or 15.9%15.6% of revenue, in the firstsecond quarter of 2017, down $0.7up $0.4 million from $13.2$13.6 million, or 15.8%16.6% of revenue, in the firstsecond quarter of 2016. NCI’s CNOSS program accounted for $9.4$10.3 million, or 11.9%11.4% of revenue, in the firstsecond quarter of 2017, up $0.9$1.0 million from $8.5$9.3 million, or 10.1%11.4% of revenue, in the firstsecond quarter of 2016.

Cost of revenue

Cost of revenue for the three months ended March 31,June 30, 2017 was $64.7$74.2 million, or 82.2%82.6% of revenue, compared to $69.7$67.7 million, or 83.3%82.6% of revenue, for the three months ended March 31,June 30, 2016. The increase in cost of revenue was primarily attributable to direct labor and materials associated with the increase in revenue.

General and administrative expenses

General and administrative expenses were essentially unchanged for the three months ended June 30, 2017, as compared to the same period a year ago. General and administrative costs as a percentage of revenue decreased from 8.3% in the three months ended June 30, 2016 to 7.6% in the three months ended June 30, 2017. This decrease was primarily due to the similar costs on a higher revenue base.

Depreciation and amortization

Depreciation and amortization expense was approximately $1.8 million for the quarter ended June 30, 2017, as compared to $1.7 million for the quarter ended June 30, 2016.

Acquisition related expenses

Acquisition related expenses totaled approximately $1.3 million for the three months ended June 30, 2017. These expenses include investment banking and legal costs associated with the proposed acquisition of NCI by H.I.G. Capital.

Misappropriation loss and related expenses

Misappropriation loss and related expenses totaled approximately $2.2 million and $1.4 million for the quarter ended June 30, 2017 and 2016, respectively. Misappropriation loss and related expenses includes the loss due to the previously disclosed embezzlement of Company funds by our former controller as well as external professional service fees including legal, forensic accounting, audit and other consulting fees. We incurred approximately $1.4 million of loss related to such embezzlement for the quarter ended June 30, 2016. There was no misappropriation loss related to the embezzlement of funds in the quarter ended June 30, 2017.

Interest expense, net

Interest expense, net, was $0.2 million for the quarters ended June 30, 2017 and 2016, respectively. Interest expense for the quarter ended June 30, 2017 included approximately $0.1 million of interest related to uncertain tax position related to the misappropriation loss. During the second fiscal quarter of 2017, we had a weighted average outstanding loan balance of $3.4 million which accrued interest at a weighted average borrowing rate of 3.1%. During the second fiscal quarter of 2016, we had a weighted average outstanding loan balance of $16.4 million which accrued interest at a weighted average borrowing rate of 2.5%.

Provision for income taxes

For the three months ended June 30, 2017, our provision for income taxes was $1.0 million as compared to $1.7 million for the three months ended June 30, 2016. This decrease was primarily due to the lower operating income for the quarter ended June 30, 2017 and a lower effective income tax rate for the period. The effective income tax rate for the quarters ended June 30, 2017 and 2016 was 30.4% and 39.5%, respectively. The decrease in the rate was primarily attributable to tax benefits derived from certain stock transactions that occurred during the three months ended June 30, 2017. The projected annual effective income tax rate for 2017 is 40.6%.

Six Months Ended June 30, 2017 Compared to Six Months Ended June 30, 2016

The following table sets forth certain items from our consolidated statements of income and expresses each item in dollars and as a percentage of revenue for the periods indicated:

Revenue

For the six months ended June 30, 2017, revenue increased by 1.8%, or $3.0 million, over the same period a year ago. This increase is principally due increased revenues from revenue derived from new contract awards and additional task orders on the expanded CNOSS program, offset by contracts completed in 2016 and reductions in staffing and scope of work on certain other contracts.

Cost of revenue

Cost of revenue for the six months ended June 30, 2017 was $138.9 million, or 82.4% of revenue, compared to $137.3 million, or 83.0% of revenue, for the six months ended June 30, 2016. The decrease in cost of revenue as a percentage of revenue was primarily the result of improved gross margin realized from the increased portion of revenue derived from fixed price contracts.

General and administrative expenses

General and administrative expense increased $0.6 million, or 9.5%4.6%, to $6.7$13.5 million for the threesix months ended MarchJune 31, 2017, as compared to $6.1$12.9 million in the same period a year ago. General and administrative costs as a percentage of revenue increased from 7.3%7.8% in the threesix months ended March 31,June 30, 2016 to 8.5%8.0% in the threesix months ended March 31,June 30, 2017. The increase was primarily due to higher recruiting and business development costs.

Depreciation and amortization

Depreciation and amortization expense was approximately $1.8$3.6 million for the quarterssix months ended March 31,June 30, 2017, as compared to $3.5 million for the six months ended June 30, 2016.

Acquisition related expenses

Acquisition related expenses totaled approximately $1.3 million for the six months ended June 30, 2017. These expenses include investment banking and 2016, respectively.legal costs associated with the proposed acquisition of NCI by H.I.G. Capital.

Misappropriation loss and related expenses

Misappropriation loss and related expenses totaled approximately $6.6$8.9 million and $1.5$2.9 million for the quartersix months ended March 31,June 30, 2017 and 2016, respectively. Misappropriation loss and related expenses includes the loss due to embezzledthe previously disclosed embezzlement of Company funds by our former controller as well as external professional service fees including legal, forensic accounting, audit and other consulting fees. We incurred approximately $0.4 million and $1.5$2.9 million of loss related to thesuch embezzlement of funds from our former corporate controller for the quarterssix months ended March 31,June 30, 2017 and 2016, respectively.

Interest expense, net

Interest expense, net, was $0.2$0.4 million and $0.3 million for the quarterssix months ended March 31,June 30, 2017 and 2016, respectively. Interest expense for the quartersix months ended March 31,June 30, 2017 included approximately $0.1 million of interest related to uncertain tax position related to the misappropriation loss. During the first fiscal quarter of 2017, we had a weighted average outstanding loan balance of $2.9 million which accrued interest at a weighted average borrowing rate of 2.9%. During the first fiscal quarter of 2016, we had a weighted average outstanding loan balance of $16.5 million which accrued interest at a weighted average borrowing rate of 2.5%.

(Benefit) provisionProvision for income taxes

For the threesix months ended March 31,June 30, 2017, our benefitprovision for income taxes was 35.3% of our loss before tax. This representsdecreased to $0.6 million from $3.4 million in the same period a decrease from 40.3% of ouryear ago, due to lower pretax income beforeand a lower effective tax rate in the period. The effective income tax rate for the threesix months ended March 31,June 30, 2017 was approximately 27.4% as compared to an effective income tax rate of 39.9% for the six months ended June 30, 2016. The decrease in the rate was primarily attributable to a change in certain state tax rates during the three months ended March 31, 2017, offset by a tax benefitbenefits associated with certain stock transactions.transactions that occurred in the period. The projected annual effective income tax rate for 2017 is 40.6%.

Misappropriation Loss—Costs and Recovery

As discussed in Note 14 to our financial statements, the Company initiated civil legal proceedings against our former controller seeking to recover assets acquired by him with funds wrongfully obtained by him through his embezzlement of Company funds and that litigation is ongoing. The court has frozen all of our former controller’s assets.

In its Annual Report on Form 10-K for the year ended December 31, 2016 and its Quarterly Reports on Form 10-Q/A for the periods ended March 31, June 30 and September 30, 2016, the Company disclosed such misappropriation losses and indicated that it carried an insurance policy that could cover up to $5 million dollars of the misappropriation losses. The Company was recently notified by letter from its insurance carrier, Berkley Regional Insurance Company (“Berkley”), that the applicable insurance policy that could cover a portion of the misappropriation losses was terminated due to misrepresentations made by the Company’s controller in applying for and obtaining such policy. The Company rejects Berkeley’s position and intends to enforce the applicable policy to seek to recover the maximum possible insurance proceeds with respect to the misappropriation losses. The timing and amount of final recoveries (if any), net of expenses of recovery, is uncertain. The Company has not yet recognized an estimated value of the potential recovery due to the limited amount of information available to it at this time. The Company expects that it will incur additional costs during fiscal 2017 related to the embezzlement, including legal, audit and other consulting fees.

Liquidity and Capital Resources

Our primary liquidity needs are for financing working capital, capital expenditures, stock repurchases, and making selective strategic acquisitions. Historically, we have relied primarily on our cash flow from operations and borrowings under our credit facility to provide the capital for our liquidity needs. As part of our growth strategy, we may pursue acquisitions that could require us to incur additional debt or issue new equity. We expect the combination of our current cash, cash flow from operations, and the available borrowing capacity under our credit facility to continue to meet our normal working capital, capital expenditures and other cash requirements.

During the threesix months ended March 31,June 30, 2017, the balance of accounts receivable increased by $2.7$6.8 million to $53.9$57.9 million at the end of the quarter. Days sales outstanding of accounts receivable (DSO) increased one daydecreased three days to 6258 days at March 31,June 30, 2017 as compared to 61 days at December 31, 2016. As of March 31,June 30, 2017, $2.0 millionthere was no outstanding balance due under the credit facility, as compared to no balance outstanding as ofunchanged from December 31, 2016, reflecting $2.0 million of net borrowings during the first three months of 2017.2016. Net cash provided by operating activities was $1.1$5.1 million for the threesix months ended March 31,June 30, 2017.

On January 31,May 25, 2017, NCI, entered into the FourthFifth Amendment (the “Amendment”) to the Credit Agreement.

The Amendment modifies certain provisions of the Credit Agreement to, among other things:

If the proposed acquisition of our capital stock.

WeNCI by H.I.G. Capital is not completed, we intend to amend and extend our credit facility before the current facility expires on May 31,September 30, 2017. Our goal is to reestablish a credit agreement that will support our stated goals for financing working capital, capital expenditures, stock repurchases, and making selective strategic acquisitions.

As of March 31,June 30, 2017, we were in compliance with all our loan covenants.

Off-Balance Sheet Arrangements

We do not have any materialoff-balance sheet arrangements.

Critical Accounting Policies

There have been no significant changes to our Critical Accounting Policies during the firstsecond quarter of 2017. Refer to the Critical Accounting Policies section in our Annual Report on Form10-K for the year ended December 31, 2016, as filed with the SEC.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The Company’s exposure to market risk relates to changes in interest rates for borrowings under its credit facility. For the quarter ended March 31,June 30, 2017, a change of one percentage point in interest rates would have changed NCI’s interest expense or cash flows by less than $0.1 million. This estimate is based on our average balances for the period.

Additionally, the Company is subject to credit risks associated with our cash, cash equivalents, and accounts receivable. NCI believes that the concentration of credit risk with respect to cash equivalents is limited due to the high credit quality of these investments. NCI’s investment policy requires that the Company invest excess cash in high-quality investments, which preserve principal, provide liquidity, and minimize investment risk. NCI also believes that its credit risk associated with accounts receivable is limited as they are primarily with the U.S. Federal Government or prime contractors working for the U.S. Federal Government.

Item 4. Controls and Procedures

Evaluation of the Effectiveness of Disclosure Controls and Procedures

The Company, under the direction of the Chief Executive Officer and the Chief Financial Officer, has established disclosure controls and procedures as defined in Rule13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) that are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

An evaluation was performed under the supervision and with the participation of NCI’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule13a-15 under the Exchange Act. Based upon their evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that as of March 31,June 30, 2017, the Company’s disclosure controls and procedures are not effective because of the material weakness in our internal control over financial reporting identified in our Annual Report on Form10-K for the year ended December 31, 2016, as described below.

Remediation Plan

As noted in Item 9.A in our Annual Report on Form10-K for the year ended December 31, 2016, as filed on with the SEC, management’s evaluation of our internal control over financial reporting identified material weaknesses resulting from several control deficiencies in the internal control system that allowed the misappropriation of funds by the Company’s former corporate controller and the failure to detect them for an extended period of time. Management is committed to remediating each of the material weaknesses identified by implementing changes to the Company’s internal control over financial reporting. Management has implemented, or is in the process of implementing, the following changes to the Company’s internal control systems and procedures:

Management intends to finalize its efforts around implementing effective internal controls and closely test and monitor the operating effectiveness of these controls throughout 2017 to ensure they meet their designed control objectives and, where necessary, take additional corrective measures to ensure that deficiencies are remediated.

Changes in Internal Control over Financial Reporting

Except as described above, there have been no changes to the Company’s internal control over financial reporting that occurred during the quarter ended March 31,June 30, 2017, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. The remediation plan noted above was initiated in the first quarter of 2017 and we expect that our remediation efforts, including design, implementation and testing, will continue throughout 2017.

PART II

OTHER INFORMATION

Item 1. Legal Proceedings

For information regarding our legal proceedings, see Note 14 to our financial statements included in this Form 10-Q and Item 3— “Legal Proceedings” in the Form 10-K. Other than as set forth below, as of June 30, 2017, there have been no material developments in our historical legal proceedings since December 31, 2016.

Civil Suit Against Former Controller

As previously disclosed, on January 23, 2017,in connection with the Company commenced an internal investigation upon discoveringCompany’s discovery that its former controller, Jon Frank, had been embezzling money from the Company. Upon completion of the internal investigation, the Company determined that the actual amount of the embezzlement by Mr. Frank during the period from January 2010 through 2017 was approximately $19.4 million. The Company believes that Mr. Frank acted alone and found no evidence that any other NCI employee was aware of or colluded in the embezzlement of Company funds, and found no evidence of any unlawful activity apart from that associated with Mr. Frank’s embezzlement ofthe Company funds.

On January 23, 2017, we filed a lawsuit against Mr. Frank in the Circuit Court of Fairfax County in the State of Virginia to recover the embezzled funds.

funds embezzled. On February 2,May 12, 2017, the Honorable Chief Judge White entered an Order for Preliminary Injunction and Asset Freeze (the “Preliminary Injunction”) against Mr. Frank. Among other things, the Preliminary Injunction placed an immediate freeze on all monies and assets of Mr. Frank and ordered Mr. FrankNCI amended its complaint to prepare and deliveradd Frank’s ex-wife as a defendant to the Company an accounting of his personal assets. In addition, pursuant to the Preliminary Injunction, Mr. Frank agreed to cooperate with the Company to identify, recover and return to the Company all assets that he obtained wrongfully or acquired with wrongfully-obtained funds.previously had transferred to her.

Government Agency InvestigationsTransaction Litigation

In connection with the discovery of Mr. Frank’s embezzlement of money from the Company, we self-reported such matter to the U.S. Securities and Exchange Commission (“SEC”) and the civil and criminal divisions of the U.S. Department of Justice (“DOJ”).

By letter to the Company dated February 1, 2017, the DOJ has identified the Company as a possible victim of Mr. Frank’s conduct. On February 8, 2017, the SEC commenced a formal investigation and has served the Company with a subpoena requesting certain documents and information relevant to the embezzlement of Company funds by Mr. Frank. The Company is cooperating fully withand members of NCI’s Board of Directors are named as defendants in three putative class action lawsuits, all filed in the DOJ and the SEC in connection with their respective investigations, which are ongoing.

The United States Attorney’s OfficeDistrict Court for the Eastern District of Virginia, (“USAO EDVA”) has opened a civil fraud investigation intochallenging the impactTransaction, one of Mr. Frank’s conductwhich also names Parent and Purchaser as defendants. The first suit was filed on July 19, 2017 and is docketed asElliot Schwartz v. NCI, Inc., Charles K. Narang, Paul A. Dillahay, James P. Allen, Paul V. Lombardi, Cindy E. Moran, Austin J. Yerks and Daniel R. Young,Case No. 1:17-CV-00816-LO-TCB (the “Schwartz Action”). The second suit was filed on July 21, 2017 and is docketed asColleen Witmer v. NCI, Inc., Charles K. Narang, Paul A. Dillahay, James P. Allen, Paul V. Lombardi, Cindy E. Moran, Austin J. Yerks, Daniel R. Young, H.I.G. Capital, L.L.C., Cloud Intermediate Holdings, L.L.C., and Cloud Merger Sub, Inc.,Case No. 1:17-CV-00838-LO-JFA (the “Witmer Action”). The third suit was filed on July 25, 2017 and is docketed asDeborah A. Nichols v. NCI, Inc., Charles K. Narang, Paul A. Dillahay, Daniel R. Young, Paul Lombardi, James P. Allen, Cindy E. Moran and Austin J. Yerks,Case No. 1:17-CV-00839-LO-MSN (the “Nichols Action”). Each of the Company’s government contracts. The Company is cooperating fully withSchwartz Action, the USAO EDVAWitmer Action and the Inspectors GeneralNichols Action allege that NCI and the members of relevant government agencies in connection with this investigation, which is ongoing. At this time, we do not have an estimateNCI’s Board of Directors violated Section 14 of the financial impact onExchange Act by issuing a Schedule 14D-9 that was materially misleading and omitted material facts related to the Company, if any,Offer and the Merger. Each of the investigation being conducted bySchwartz Action, the USAO EDVA.

Other Legal Proceedings

The Company is party to various legal actions, claims, government inquiries,Witmer Action and audits resulting from the normal course of business. The Company believesNichols Action also allege that the probability is remotemembers of NCI’s Board of Directors violated Section 20(a) of the Exchange Act, as controlling persons who had the ability to prevent the Schedule 14D-9 from being materially false and misleading. Each of the Schwartz Action, the Witmer Action and the Nichols Action seek, among other things, an injunction against the consummation of the proposed Offer and Merger and an award of costs for the actions, including reasonable attorneys’ and experts’ fees. NCI and our Board of Directors believe that any resulting liability will have a material effect on the Company’s financial position, results of operations, or liquidity.foregoing actions are each without merit.

Item 1A. Risk Factors

There have been no significant changes in our risk factors from those discussed in Item 1A. “Risk Factors” included in the Company’s Annual Report on Form10-K for the year ended December 31, 2016, as filed with the SEC.SEC, except as set forth below.

Risks Relating to the Pending Transactions

The announcement and pendency of the Merger Agreement and the transactions contemplated thereby, including the Offer and the Merger (collectively, the “Transactions”), could adversely affect our business, financial results and operations.

As a result of the execution of the Merger Agreement with Parent and Purchaser, and irrespective of whether or not the Transactions are completed, the uncertainty of the Transactions could cause disruptions in our business, including, but not limited to, the following:

The occurrence of any of these events individually or in combination could adversely affect our business, financial results and operations.

There is no assurance that the Transactions will be completed.

We cannot assure you that the Transactions will be consummated in the expected time frame or at all. The consummation of the Transactions is subject to the satisfaction or waiver of a number of conditions which have not yet been satisfied as of this date, including, with respect to the Offer, the tender of shares of NCI common stock representing at least a majority of the voting power of the Class A Shares and Class B Shares outstanding on a fully-diluted basis (assuming that the Class B Shares will convert to Class A Shares upon consummation of the Offer, the exercise of all options and the vesting of all restricted stock awards). No assurance can be given that the remaining conditions to Transactions will be satisfied. In addition, Parent may terminate the Merger Agreement in certain circumstances, including if certain of our representations and warranties set forth in the Merger Agreement become inaccurate prior to closing and such inaccuracy has a material adverse effect on our business.

If the Transactions, or similar transactions, are not completed, the share price of our common stock may change, insofar as and to the extent that the current market price of our common stock reflects an assumption that the Transactions, or a similar transaction, will be completed. We also will have incurred significant costs, including the diversion of management resources, for which we will have received little or no benefit. In addition, if the Transactions are not consummated, we may not be able to develop and implement a strategy for the future growth and development of the Company’s business that would generate a return similar to or better than the return which would be generated by the Transactions.

The Merger Agreement imposes restrictions on our ability to operate the Company, which may delay or prevent us from undertaking business opportunities that may be beneficial to the Company, pending completion of the Transactions.

The Merger Agreement contains restrictions on our ability to operate the Company prior to the consummation of the Transactions. These restrictions could harm us by, among other things, prohibiting, limiting or restricting our ability to take advantage of mergers, acquisitions and other corporate opportunities or to take certain actions that management may deem to be necessary or desirable to operate or grow the Company or to increase its profitability.

We are not permitted to terminate the Merger Agreement except in limited circumstances, and we may be required to pay a substantial termination fee to Parent if the Merger Agreement is terminated.

We may only terminate the Merger Agreement in limited circumstances. If the Merger Agreement is terminated in certain circumstances, we will be obligated to pay Parent a termination fee of $11.3 million.

Lawsuits have been filed against the Company, the members of our Board of Directors, and in one case, Parent and Purchaser, challenging the proposed Transactions, and an adverse judgment in such lawsuits, or any similar lawsuit, may prevent the Transactions from being consummated or from being consummated within the expected timeframe, and may result in costs to NCI.

As described in greater detail elsewhere in this Form 10-Q, NCI, the members of our Board of Directors, and in one case, Parent and Purchaser, are named as defendants in three putative class action lawsuits filed in the United States District Court for the Eastern District of Virginia by purported stockholders of NCI, on behalf of the stockholders of NCI, challenging the proposed Transactions, and seeking, among other things, an injunction against the consummation of the proposed Transactions and an award of costs for the actions, including reasonable attorneys’ and experts’ fees. One of the conditions to the completion of the Transactions is that no injunction or other order (whether temporary, preliminary or permanent) that enjoins or otherwise prohibits the making or consummation of the Offer or the Merger shall have been issued by or under the authority of any governmental body of competent jurisdiction in the United States. Consequently, if any of the plaintiffs in the above referenced lawsuits, or in any other subsequently filed similar lawsuit, is successful in obtaining an injunction prohibiting the parties from completing the Transactions on the agreed-upon terms, the injunction may prevent the completion of the Transactions in the expected timeframe, or at all.

NCI has obligations under certain circumstances to hold harmless and indemnify each of the defendant directors against judgments, fines, settlements and expenses related to claims against such directors and otherwise to the fullest extent permitted under Delaware law and NCI’s bylaws and certificate of incorporation. Such obligations may apply to these lawsuits. NCI and our Board of Directors believe the respective allegations against them in the complaints are wholly without merit. An unfavorable outcome in any lawsuit related to the Transactions could prevent or delay the consummation of the Transactions, result in substantial costs to NCI or both.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3. Defaults Upon Senior Securities

None

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

None

Item 6. Exhibits

SIGNATURES

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 hereunto duly authorized.

1926