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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
x | Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended June 30, 2013
or
¨ | Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
Commission File Number: 001-34849
THE CORPORATE EXECUTIVE BOARD COMPANY
(Exact name of registrant as specified in its charter)
Delaware | 52-2056410 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) | |
1919 North Lynn Street Arlington, Virginia | 22209 | |
(Address of principal executive offices) | (Zip Code) |
(571) 303-3000
(Registrant’s telephone number, including area code)
Not applicable
(Former name, former address or former fiscal year, if changed since last report)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark 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 of Regulation 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 x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer | x | Accelerated filer | ¨ | |||
Non-accelerated filer | ¨ (Do not check if a smaller reporting company) | Smaller reporting company | ¨ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ¨ No x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
The Company had 33,592,035 shares of common stock, par value $0.01 per share, outstanding at August 5, 2013.
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THE CORPORATE EXECUTIVE BOARD COMPANY
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Item 1. | Financial Statements. |
THE CORPORATE EXECUTIVE BOARD COMPANY
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
June 30, 2013 | December 31, 2012 | |||||||
(Unaudited) | ||||||||
Assets | ||||||||
Current assets: | ||||||||
Cash and cash equivalents | $ | 81,573 | $ | 72,699 | ||||
Accounts receivable, net | 187,369 | 239,599 | ||||||
Deferred income taxes, net | 15,526 | 15,669 | ||||||
Deferred incentive compensation | 23,013 | 19,984 | ||||||
Prepaid expenses and other current assets | 19,730 | 19,068 | ||||||
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Total current assets | 327,211 | 367,019 | ||||||
Deferred income taxes, net | 243 | 283 | ||||||
Property and equipment, net | 106,617 | 96,962 | ||||||
Goodwill | 446,248 | 471,299 | ||||||
Intangible assets, net | 305,052 | 335,191 | ||||||
Other non-current assets | 55,204 | 51,495 | ||||||
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Total assets | $ | 1,240,575 | $ | 1,322,249 | ||||
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Liabilities and stockholders’ equity | ||||||||
Current liabilities: | ||||||||
Accounts payable and accrued liabilities | $ | 61,987 | $ | 84,363 | ||||
Accrued incentive compensation | 37,358 | 53,927 | ||||||
Deferred revenue | 380,940 | 365,747 | ||||||
Deferred income taxes, net | 1,810 | 3,537 | ||||||
Debt – current portion | 12,474 | 12,479 | ||||||
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Total current liabilities | 494,569 | 520,053 | ||||||
Deferred income taxes | 53,352 | 59,773 | ||||||
Other liabilities | 103,571 | 98,641 | ||||||
Debt – long term | 502,042 | 528,280 | ||||||
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Total liabilities | 1,153,534 | 1,206,747 | ||||||
Stockholders’ equity: | ||||||||
Common stock, par value $0.01; 100,000,000 shares authorized, 44,638,271 and 44,220,685 shares issued, and 33,591,562 and 33,337,337 shares outstanding at June 30, 2013 and December 31, 2012, respectively | 446 | 442 | ||||||
Additional paid-in capital | 436,841 | 427,491 | ||||||
Retained earnings | 355,640 | 345,907 | ||||||
Accumulated elements of other comprehensive (loss) income | (10,665 | ) | 27,665 | |||||
Treasury stock, at cost, 11,046,709 and 10,883,348 shares at June 30, 2013 and December 31, 2012, respectively | (695,221 | ) | (686,003 | ) | ||||
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Total stockholders’ equity | 87,041 | 115,502 | ||||||
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Total liabilities and stockholders’ equity | $ | 1,240,575 | $ | 1,322,249 | ||||
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See accompanying notes to condensed consolidated financial statements.
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THE CORPORATE EXECUTIVE BOARD COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
(Unaudited)
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Revenue | $ | 204,610 | $ | 135,718 | $ | 394,882 | $ | 264,185 | ||||||||
Costs and expenses: | ||||||||||||||||
Cost of services | 75,797 | 47,372 | 146,788 | 90,979 | ||||||||||||
Member relations and marketing | 58,238 | 38,615 | 113,896 | 76,741 | ||||||||||||
General and administrative | 25,253 | 16,040 | 50,470 | 32,124 | ||||||||||||
Acquisition related costs | 2,024 | 2,253 | 3,022 | 2,729 | ||||||||||||
Depreciation and amortization | 14,783 | 5,935 | 29,489 | 10,964 | ||||||||||||
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Total costs and expenses | 176,095 | 110,215 | 343,665 | 213,537 | ||||||||||||
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Operating profit | 28,515 | 25,503 | 51,217 | 50,648 | ||||||||||||
Other (expense) income, net | ||||||||||||||||
Interest income and other | (256 | ) | (617 | ) | 1,296 | 930 | ||||||||||
Interest expense | (6,240 | ) | (128 | ) | (12,640 | ) | (265 | ) | ||||||||
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Other (expense) income, net | (6,496 | ) | (745 | ) | (11,344 | ) | 665 | |||||||||
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Income before provision for income taxes | 22,019 | 24,758 | 39,873 | 51,313 | ||||||||||||
Provision for income taxes | 8,451 | 9,993 | 15,097 | 20,987 | ||||||||||||
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Net income | $ | 13,568 | $ | 14,765 | $ | 24,776 | $ | 30,326 | ||||||||
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Basic earnings per share | $ | 0.41 | $ | 0.44 | $ | 0.74 | $ | 0.91 | ||||||||
Diluted earnings per share | $ | 0.40 | $ | 0.44 | $ | 0.73 | $ | 0.90 | ||||||||
Weighted average shares outstanding: | ||||||||||||||||
Basic | 33,459 | 33,502 | 33,481 | 33,416 | ||||||||||||
Diluted | 33,741 | 33,718 | 33,850 | 33,713 | ||||||||||||
Dividends declared and paid per share | $ | 0.225 | $ | 0.175 | $ | 0.45 | $ | 0.35 |
See accompanying notes to condensed consolidated financial statements.
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THE CORPORATE EXECUTIVE BOARD COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In thousands)
(Unaudited)
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Net income | $ | 13,568 | $ | 14,765 | $ | 24,776 | $ | 30,326 | ||||||||
Other comprehensive income (loss): | ||||||||||||||||
Currency translation adjustment | (96 | ) | (382 | ) | (38,113 | ) | (122 | ) | ||||||||
Foreign currency hedge, net of tax | 145 | (254 | ) | (217 | ) | 142 | ||||||||||
Change in unrealized gains on available-for-sale marketable securities, net of tax | — | (52 | ) | — | (94 | ) | ||||||||||
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Comprehensive income (loss) | $ | 13,617 | $ | 14,077 | $ | (13,554 | ) | $ | 30,252 | |||||||
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See accompanying notes to condensed consolidated financial statements.
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THE CORPORATE EXECUTIVE BOARD COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Six Months Ended June 30, | ||||||||
2013 | 2012 | |||||||
Cash flows from operating activities: | ||||||||
Net income | $ | 24,776 | $ | 30,326 | ||||
Adjustments to reconcile net income to net cash flows provided by operating activities: | ||||||||
Depreciation and amortization | 29,489 | 10,964 | ||||||
Amortization of credit facility issuance costs | 1,609 | — | ||||||
Deferred income taxes | (4,588 | ) | 2,032 | |||||
Share-based compensation | 5,857 | 4,236 | ||||||
Excess tax benefits from share-based compensation arrangements | (4,036 | ) | (1,938 | ) | ||||
Foreign currency translation loss | 579 | 216 | ||||||
Amortization of marketable securities premiums, net | — | 56 | ||||||
Changes in operating assets and liabilities: | ||||||||
Accounts receivable, net | 49,458 | 44,293 | ||||||
Deferred incentive compensation | (3,060 | ) | (2,814 | ) | ||||
Prepaid expenses and other current assets | (1,001 | ) | 6,051 | |||||
Other non-current assets | 392 | (2,286 | ) | |||||
Accounts payable and accrued liabilities | (23,435 | ) | (9,568 | ) | ||||
Accrued incentive compensation | (16,010 | ) | (9,855 | ) | ||||
Deferred revenue | 17,562 | 8,980 | ||||||
Other liabilities | 70 | 2,818 | ||||||
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Net cash flows provided by operating activities | 77,662 | 83,511 | ||||||
Cash flows from investing activities: | ||||||||
Purchases of property and equipment | (14,384 | ) | (6,161 | ) | ||||
Investments in other entities | (7,300 | ) | — | |||||
Acquisition of businesses, net of cash acquired | — | (20,982 | ) | |||||
Maturities of marketable securities | — | 1,200 | ||||||
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Net cash flows used in investing activities | (21,684 | ) | (25,943 | ) | ||||
Cash flows from financing activities: | ||||||||
Payments of credit facility | (26,626 | ) | — | |||||
Proceeds from the exercise of common stock options | 1,098 | 807 | ||||||
Proceeds from the issuance of common stock under the employee stock purchase plan | 384 | 293 | ||||||
Excess tax benefits from share-based compensation arrangements | 4,036 | 1,938 | ||||||
Credit facility issuance costs | — | (200 | ) | |||||
Purchase of treasury shares | (2,751 | ) | — | |||||
Withholding of shares to satisfy minimum employee tax withholding for restricted stock units | (6,466 | ) | (3,334 | ) | ||||
Payment of dividends | (15,064 | ) | (11,696 | ) | ||||
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Net cash flows used in financing activities | (45,389 | ) | (12,192 | ) | ||||
Effect of exchange rates on cash | (1,715 | ) | (87 | ) | ||||
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Net increase in cash and cash equivalents | 8,874 | 45,289 | ||||||
Cash and cash equivalents, beginning of period | 72,699 | 133,429 | ||||||
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Cash and cash equivalents, end of period | $ | 81,573 | $ | 178,718 | ||||
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See accompanying notes to condensed consolidated financial statements.
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THE CORPORATE EXECUTIVE BOARD COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Nature of Business and Basis of Presentation
The Corporate Executive Board Company (“CEB” or the “Company”) is a member-based advisory company. By combining the best practices of thousands of member companies with its advanced research methodologies and human capital analytics, CEB equips senior leaders and their teams with insight and actionable solutions to transform operations. This distinctive approach, pioneered by CEB, enables executives to harness peer perspectives and tap into breakthrough innovation without costly consulting or reinvention. The CEB member network includes more than 15,000 executives and the majority of top companies globally. On August 2, 2012, CEB completed the acquisition of SHL Group Holdings I and its subsidiaries (“SHL”), a global leader in cloud-based talent measurement and management solutions headquartered in the United Kingdom (“UK”).
The accompanying condensed consolidated financial statements have been prepared in accordance with US generally accepted accounting principles (“GAAP”) for interim financial information and pursuant to the rules and regulations of the United States Securities and Exchange Commission (the “SEC”) for reporting on Form 10-Q. Accordingly, certain information and disclosures required for complete consolidated financial statements are not included. It is recommended that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and related notes in CEB’s 2012 Annual Report on Form 10-K.
In management’s opinion, all adjustments, consisting of a normal recurring nature, considered necessary for a fair presentation of the condensed consolidated financial position, results of operations, and cash flows at the dates and for the periods presented have been included. The condensed consolidated balance sheet presented at December 31, 2012 has been derived from the financial statements that were audited by CEB’s independent registered public accounting firm. The results of operations for the three and six months ended June 30, 2013 may not be indicative of the results that may be expected for the year ended December 31, 2013 or any other period within 2013.
Note 2. Recent Accounting Pronouncements
Recently Adopted
In February 2013, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2013-02, Comprehensive Income (Topic 220), Reporting Amounts Reclassified Out of Accumulated Other Comprehensive Income. This update requires companies to provide information about the amounts reclassified out of accumulated other comprehensive income by component. In addition, companies are required to present, either on the face of the statement where net income is presented or in the notes, significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income. This update was effective for CEB in the first quarter of 2013 and will be applied prospectively. Other than requiring additional disclosures, adoption of this new guidance did not have a significant impact on the Company’s condensed consolidated financial statements.
Note 3. Acquisitions
Investments in Other Entities
In June 2013, the Company made an investment totaling $7.3 million in a private entity. Through June 30, 2013, the Company has made three investments with an aggregate carrying amount of $10.7 million included in Other non-current assets in the condensed consolidated balance sheets. The cost method has been used to account for these investments as the Company believes that, due to the size and nature of the investments, they are not able to exercise significant influence on the investee entities. These investments are carried at their original cost and evaluated each reporting period for their net realizable value. If there are identified events or changes in circumstances that may have a significant adverse effect on the fair value of the investments, the value of the investment will be evaluated for impairment. Because the investee entities are private companies without readily traded securities, the fair value of the underlying investment is not readily available. No such events or changes were identified in the three or six months ended June 30, 2013.
In July 2013, the Company made an additional investment totaling $2.7 million in another private entity. The Company believes that the cost method will be appropriate for this investment.
SHL
On August 2, 2012, CEB completed the acquisition of 100% of the equity interests of SHL pursuant to a sale and purchase agreement entered into on July 2, 2012. The acquisition significantly expanded the addressable market of both companies through an increased global presence across major developed and emerging markets, enhancing CEB’s ability to scale and extend its existing platform with technology-driven solutions.
The purchase price was approximately $654 million in cash. CEB used borrowings under the Senior Secured Credit Facility and approximately $121 million of its available cash on hand to fund the purchase price.
The Company is still evaluating the fair value of acquired assets and liabilities and pre-acquisition contingencies; therefore, the final allocation of the purchase price has not been completed. The allocation of the purchase price will be finalized upon final review of the deferred tax assets and liabilities and the necessary management reviews thereof. Based on the current estimated fair value of the acquired assets and assumed liabilities as of the acquisition date, CEB allocated $82.9 million to the net tangible liabilities, $323.2 million to other intangible assets, and $413.7 million to goodwill. Goodwill and intangible assets are not expected to be deductible for tax purposes. As a result, the Company recorded a deferred tax liability of $94.1 million related to the difference in the book and tax basis of identifiable intangible assets. Deferred revenue at the acquisition date was recorded at fair value based on the estimated cost to provide the related services plus a reasonable profit margin on such costs. The reduction in deferred revenue from SHL’s historical cost to fair value was approximately $34 million. Of this amount, $17.1 million would have been recognized in 2012, and $7.5 million would have been recognized in the six months ended June 30, 2013. The remaining $9.4 million would have been recognized primarily in 2014. Changes in amounts allocated to acquired assets and assumed liabilities were not material and therefore the December 31, 2012 balance sheet was not recast.
Pro Forma Financial Information
The following unaudited pro forma financial information summarizes the Company’s operating results as if the SHL acquisition had been completed on January 1, 2011. The pro forma financial information includes the impact of fair value adjustments, including a $34 million deferred revenue fair value adjustment on revenue recognized, amortization expense from acquired intangible assets, interest expense, and the related tax effects. In preparing the pro forma financial information, CEB has assumed that approximately $26 million of the deferred revenue fair value adjustment would be recognized in 2011 and approximately $8 million would be recognized in 2012. The following unaudited pro forma amounts do not purport to be indicative of the results that would have actually been obtained if the acquisition occurred on January 1, 2011 and should not be construed as representative of the future consolidated results of operations or financial condition of the combined entity (unaudited and in thousands):
Three Months Ended June 30, 2012 | Six Months Ended June 30, 2012 | |||||||
Pro forma revenue | $ | 189,810 | $ | 370,941 | ||||
Pro forma net income | $ | 16,359 | $ | 31,726 |
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Valtera
In February 2012, the Company completed the acquisition of Valtera Corporation (“Valtera”), a talent management company that provides tools and services to assist organizations in hiring, engaging, and developing talent. The Company acquired 100% of the equity interests for a cash payment of $22.4 million less cash acquired of $1.9 million. The Company allocated $8.8 million to intangible assets with a weighted average amortization period of 6 years and $11.4 million to goodwill. The operating results of Valtera are not considered material to the Company’s condensed consolidated financial statements. Accordingly, pro forma financial information has not been presented.
Note 4. Fair Value Measurements
Measurements
Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. There is a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:
• | Level 1 — Quoted prices in active markets for identical assets or liabilities. |
• | Level 2 — Observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data. |
• | Level 3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. This includes certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs. |
The Company has segregated all assets and liabilities that are measured at fair value on a recurring basis into the most appropriate level within the fair value hierarchy based on the inputs used to determine the fair value at the measurement date in the tables below (in thousands):
June 30, 2013 | December 31, 2012 | |||||||||||||||||||||||
Level 1 | Level 2 | Level 3 | Level 1 | Level 2 | Level 3 | |||||||||||||||||||
Financial assets | ||||||||||||||||||||||||
Cash and cash equivalents | $ | 81,573 | $ | — | $ | — | $ | 72,699 | $ | — | $ | — | ||||||||||||
Investments held through variable insurance products in a Rabbi Trust | — | 15,688 | — | — | 15,267 | — | ||||||||||||||||||
Forward currency exchange contracts | — | — | — | — | 111 | — | ||||||||||||||||||
Financial liabilities | ||||||||||||||||||||||||
Forward currency exchange contracts | $ | — | $ | 391 | $ | — | $ | — | $ | — | $ | — |
Investments held through variable insurance products in a Rabbi Trust included in Other non-current assets consist of mutual funds available only to institutional investors. The fair value of these investments are based on the fair value of the underlying investments held by the mutual funds allocated to each share of the mutual fund using a net asset value approach. The fair value of the underlying investments held by the mutual funds are observable inputs. The fair value for foreign currency exchange contracts are based on bank quotations for similar instruments using models with market-based inputs.
Certain assets, such as goodwill, intangible assets, investments accounted for under the cost method, and liabilities are measured at fair value on a nonrecurring basis; that is, the assets and liabilities are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (e.g., when there is impairment). Any such fair value measurements would be included in the Level 3 fair value hierarchy.
Note 5. Accounts Receivable, net
Accounts receivable, net consists of the following (in thousands):
June 30, 2013 | December 31, 2012 | |||||||
Billed | $ | 129,801 | $ | 178,117 | ||||
Unbilled | 59,130 | 63,891 | ||||||
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188,931 | 242,008 | |||||||
Allowance for uncollectible revenue | (1,562 | ) | (2,409 | ) | ||||
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Accounts receivable, net | $ | 187,369 | $ | 239,599 | ||||
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Note 6. Goodwill and Intangible Assets, net
Changes in the carrying amount of goodwill are as follows (in thousands):
Six Months Ended June 30, 2013 | Year Ended December 31, 2012 | |||||||
Beginning of period | $ | 471,299 | $ | 29,492 | ||||
Goodwill acquired | — | 424,664 | ||||||
Purchase accounting adjustment | (3,128 | ) | — | |||||
Impact of foreign currency | (21,923 | ) | 17,143 | |||||
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End of period | $ | 446,248 | $ | 471,299 | ||||
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Intangible assets, net at June 30, 2013 consists of the following (in thousands):
Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Weighted-Average Amortization Period (in years) | |||||||||||||
Customer relationships | $ | 184,784 | $ | 19,971 | $ | 164,813 | 12.3 | |||||||||
Acquired intellectual property | 91,224 | 13,027 | 78,197 | 13.9 | ||||||||||||
Trade names | 60,920 | 5,116 | 55,804 | 13.6 | ||||||||||||
Software | 10,475 | 4,237 | 6,238 | 1.9 | ||||||||||||
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Total | $ | 347,403 | $ | 42,351 | $ | 305,052 | 12.8 | |||||||||
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Intangible assets, net at December 31, 2012 consists of the following (in thousands):
Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Weighted-Average Amortization Period (in years) | |||||||||||||
Customer relationships | $ | 191,348 | $ | 12,731 | $ | 178,617 | 12.8 | |||||||||
Acquired intellectual property | 95,012 | 7,984 | 87,028 | 14.4 | ||||||||||||
Trade names | 64,082 | 2,910 | 61,172 | 14.1 | ||||||||||||
Software | 10,877 | 2,503 | 8,374 | 2.4 | ||||||||||||
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Total | $ | 361,319 | $ | 26,128 | $ | 335,191 | 13.2 | |||||||||
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The Company’s goodwill and intangible assets for certain of its foreign subsidiaries are recorded in their functional currency, which is their local currency, and therefore are subject to foreign currency translation adjustments.
Amortization expense was $8.6 million and $1.5 million in the three months ended June 30, 2013 and 2012, respectively. Amortization expense was $17.4 million and $2.9 million in the six months ended June 30, 2013 and 2012, respectively. Future expected amortization of intangible assets at June 30, 2013 is as follows (in thousands):
2013 (1) | $ | 17,258 | ||
2014 | 32,627 | |||
2015 | 29,869 | |||
2016 | 26,888 | |||
2017 | 26,289 | |||
Thereafter | 172,121 | |||
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Total | $ | 305,052 | ||
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(1) | For the six months ended December 31, 2013 |
Note 7. Other Liabilities
Other liabilities consist of the following (in thousands):
June 30, 2013 | December 31, 2012 | |||||||
Deferred compensation | $ | 14,247 | $ | 12,397 | ||||
Lease incentives | 32,640 | 28,816 | ||||||
Deferred rent benefit | 30,948 | 28,351 | ||||||
Deferred revenue – long term | 8,297 | 10,523 | ||||||
Other | 17,439 | 18,554 | ||||||
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Total other liabilities | $ | 103,571 | $ | 98,641 | ||||
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Note 8. Senior Secured Credit Facilities
On July 2, 2012, the Company, together with certain of its subsidiaries acting as guarantors, entered into a senior secured credit agreement which was subsequently amended and restated on July 18, 2012 and on August 1, 2012 (as amended and restated, the “Credit Agreement”). The Credit Agreement provides for (i) a term loan A in an aggregate principal amount of $275 million (the “Term Loan A Facility”), (ii) a term loan B in an aggregate principal amount of $250 million (the “Term Loan B Facility” and together with the Term Loan A Facility, the “Term Facilities”) and (iii) a $100 million revolving credit facility (the “Revolving Credit Facility”, and together with the Term Facilities, the “Senior Secured Credit Facilities”). The Term Loan A Facility and the Revolving Credit Facility mature on August 2, 2017 and the Term Loan B Facility matures on August 2, 2019.
On August 2, 2012, in connection with the closing of the SHL acquisition, the full amounts of the Term Loan A Facility and the Term Loan B Facility were drawn and $30 million under the Revolving Credit Facility was drawn. In addition, approximately $6 million of availability under the Revolving Credit Facility was used to cover letters of credit that were issued to replace similar letters of credit previously issued under the Company’s prior senior unsecured credit facility which was terminated concurrently with the drawings under the Senior Secured Credit Facilities. Available borrowings under the Revolving Credit Facility were approximately $93 million at June 30, 2013, which includes approximately $7 million reserved for outstanding letters of credit. The Company repaid $10 million of the principal amount outstanding under the Revolving Credit Facility in December 2012 and the remaining outstanding amount of $20 million in January 2013.
The Senior Secured Credit Facilities are Secured by a first priority security interest in substantially all of the assets of the Company and its wholly-owned material subsidiaries, subject to certain exceptions.
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Principal payments under the Term Loan A Facility of $2.7 million are due on the last day of each quarter through June 30, 2015 and $5.2 million starting on September 30, 2015 and ending on June 30, 2018. The remaining Term Loan A Facility balance is due in full on August 2, 2018. The Revolving Credit Facility matures on August 2, 2018. Loans outstanding bear interest at a base rate or LIBOR rate plus an applicable margin. The applicable margin for the Term Loan A and Revolving Credit Facility is based on the ratio of the Company’s and its subsidiaries consolidated first lien indebtedness to the Company’s and its subsidiaries consolidated EBITDA (as defined in the Credit Agreement) for applicable periods specified in the Credit Agreement. The annual interest rate on the Term Loan A Facility and Revolving Credit Facility was 2.9% and the annual interest rate on the Term Loan B Facility was 5.0% at June 30, 2013. The Company paid interest of $5.4 million and $10.8 million in the three and six months ended June 30, 2013, respectively, and accrued interest was $1.3 million at June 30, 2013.
On August 2, 2013, the Company, together with certain of its subsidiaries acting as guarantors, entered into Amendment No. 3 (the “Amendment”) to the Credit Agreement. The Amendment (i) replaced the existing term A loans with new refinancing term A-1 loans (the “Refinancing Term A-1 Loans”) in an aggregate principal amount of $269.6 million, which was fully drawn on August 2, 2013, (ii) established a new tranche of incremental term A-1 loans (the “Incremental Term A-1 Loans” and together with the Refinancing Term A-1 Loans, the “Term A-1 Loans”) in an aggregate principal amount of $253.8 million, which was fully drawn on August 2, 2013, and (iii) increased the existing revolving commitments with new tranche A revolving commitments (the “Tranche A Revolving Commitments” and the loans thereunder, the “Tranche A Revolving Loans”) in an aggregate principal amount of $100 million for a total aggregate principal amount of $200 million, none of which was drawn in connection with the closing of the Amendment.
Amounts drawn under the Refinancing Term A-1 Loan tranche were used to prepay and terminate the Company’s existing Term Loan A Facility. Amounts drawn under the Incremental Term A-1 Loan tranche were used to prepay and terminate the Company’s existing Term Loan B Facility and pay transaction related fees and expenses. Amounts drawn under the new Tranche A Revolving Commitments are expected to be used for general corporate purposes.
The maturity date of all Term A-1 Loans is August 2, 2018. The principal amount of the Term A-1 Loans amortizes in quarterly installments equal to (i) for the first two years after the closing of the Amendment, approximately 2% of the original principal amount of the Term A-1 Loans and (ii) for the next three years thereafter, approximately 4% of the original principal amount of the Term A-1 Loans, with the balance payable at maturity. The termination date of all revolving commitments under the credit agreement, including the new Tranche A Revolving Commitments, is August 2, 2018. As of the closing, the Term A-1 Loans and Tranche A Revolving Loans will, at the option of the Company, bear interest at the Eurodollar Rate plus 2.25% or ABR plus 1.25%, as applicable, with future “step-downs” upon achievement of specified first lien net leverage ratios.
The Senior Secured Credit Facilities contain customary representations and warranties, affirmative and negative covenants, and events of default. The Company is required to comply with a net leverage ratio covenant on a quarterly basis. Mandatory prepayments attributable to excess cash flows will be based on the Company’s net leverage ratio and will be determined at the end of each fiscal year, beginning with the year ended December 31, 2013. Pursuant to the Amendment, a net leverage ratio of 2.0x or higher will trigger mandatory prepayments of 25% and a net leverage ratio of 2.5x or higher will trigger mandatory prepayments of 50% of excess cash flows. Based on the Amendment requirements, the Company currently does not believe that any mandatory prepayments will be required for the year ended December 31, 2013. In the event actual results or changes in estimates trigger the mandatory prepayment, such prepayment amount will be reclassified from long-term debt to current debt in the Company’s accompanying condensed consolidated balance sheets. The Company was in compliance with all of the Senior Secured Credit Facilities covenants at June 30, 2013.
Through August 1, 2012, the date of the second amendment to the Credit Agreement, the Company paid $4.6 million of loan origination fees related to the Term Loan A Facility and Term Loan B Facility, which was recorded as a contra-liability, and $14.5 million of deferred financing costs, which was capitalized in Other assets; both are amortized as interest expense over the term of the Credit Agreement using the effective interest method. Total amortization expense of the loan origination fees and deferred financing costs determined using the effective interest method was $0.8 million and $1.6 million in the three and six months ended June 30, 2013, respectively. In the third quarter of 2013, the Company will evaluate and determine whether, under the applicable accounting literature, the Amendment qualifies as an extinguishment of the old debt and issuance of new debt or a modification of the old debt, or some combination thereof. The Company will record a charge in the third quarter for the write-off of existing deferred financing costs if some or all of the amendment is considered to be an extinguishment of the old debt and issuance of new debt. For that portion deemed to be a modification, issuance costs paid to third parties will be expensed in the third quarter of 2013.
The future minimum payments for the Term A-1 Loans are as follows for the years ended December 31st (in thousands):
2013 (1) | $ | 5,375 | ||
2014 | 10,750 | |||
2015 | 15,750 | |||
2016 | 20,750 | |||
2017 | 20,750 | |||
2018 | 450,000 | |||
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Total principal payments | $ | 523,375 | ||
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(1) | For the six months ended December 31, 2013. |
The Company believes the carrying value of its long term debt approximates its fair value as the terms and interest rates approximate market rates.
Note 9. Stockholders’ Equity and Share-Based Compensation
Share-Based Compensation
Share-based compensation expense is recognized on a straight-line basis, net of an estimated forfeiture rate, for those shares expected to vest over the requisite service period of the award, which is generally the vesting term of four years. Forfeitures are estimated at the time of grant and adjusted, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The forfeiture rate is based on historical experience.
The Company recognized total share-based compensation costs of $3.1 million and $2.3 million in the three months ended June 30, 2013 and 2012, respectively, and $5.9 million and $4.2 million in the six months ended June 30, 2013 and 2012, respectively. At June 30, 2013, $33.6 million of total estimated unrecognized share-based compensation cost is expected to be recognized over a weighted-average period of approximately 2.5 years.
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Restricted Stock Units
The following table summarizes the changes in RSUs:
Six Months Ended June 30, 2013 | ||||||||
Number of RSUs | Weighted Average Grant Date Fair Value | |||||||
Non-vested, beginning of year | 788,725 | $ | 34.34 | |||||
Granted | 318,649 | 56.60 | ||||||
Forfeited | (29,767 | ) | 46.31 | |||||
Vested | (308,653 | ) | 28.87 | |||||
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Non-vested, end of period | 768,954 | $ | 46.51 | |||||
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Performance Based Stock Awards
CEB grants performance based restricted stock units (“PSAs”) to certain members of the corporate leadership team. The ultimate number of PSAs that will vest is based upon the achievement of specified levels of revenue and adjusted EBITDA during the three-year period beginning on January 1st of the year of grant and ending on December 31st of the third calendar year following the date of grant. Vesting is also subject to continued employment through the end of the performance period.
The following table summarizes the changes in PSAs:
Six Months Ended June 30, 2013 | ||||||||
Number of PSAs | Weighted Average Grant Date Fair Value | |||||||
Non-vested, beginning of year | 32,834 | $ | 41.87 | |||||
Granted | 27,805 | 56.15 | ||||||
Forfeited | — | — | ||||||
Vested | — | — | ||||||
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Non-vested, end of period | 60,639 | $ | 48.62 | |||||
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Dividends
In May 2013, the Board of Directors declared a second quarter cash dividend of $0.225 per share. This dividend, totaling $7.6 million, was paid on June 28, 2013.
On July 26, 2013, the Board of Directors declared a third quarter cash dividend of $0.225 per share. The dividend is payable on September 30, 2013 to stockholders of record at the close of business on September 13, 2013. The Company funds its dividend payments with cash on hand and cash generated from operations.
Share Repurchases
In February 2013, the Company’s Board of Directors approved a $50 million stock repurchase program which is authorized through December 31, 2014. Repurchases may be made through open market purchases or privately negotiated transactions. The timing of repurchases and the exact number of shares of common stock to be repurchased will be determined by the Company’s management, in its discretion, and will depend upon market conditions and other factors. The program will be funded using cash on hand and cash generated from operations. The Company repurchased 48,100 shares for an aggregate purchase price of $2.8 million in the three months ended June 30, 2013.
Note 10. Derivative Instruments and Hedging Activities
The Company’s international operations are subject to risks related to currency exchange fluctuations. Prices for the CEB segment’s products and services are denominated primarily in United States dollars (“USD”), including products and services sold to members that are located outside the United States. Many of the costs associated with the CEB segment operations located outside the United States are denominated in local currencies. As a consequence, increases in local currencies against the USD in countries where the CEB segment has foreign operations would result in higher effective operating costs and reduced earnings. The Company uses forward contracts, designated as cash flow hedging instruments, to protect against foreign currency exchange rate risks inherent with its cost reimbursement agreements with its UK subsidiary. A forward contract obligates the Company to exchange a predetermined amount of USD to make equivalent British pound sterling (“GBP”) payments equal to the value of such exchanges.
The Company formally documents all relationships between hedging instruments and hedged items as well as its risk management objective and strategy for undertaking hedge transactions. The maximum length of time over which the Company is hedging its exposure to the variability in future cash flows is 12 months. The forward contracts are recognized on the condensed consolidated balance sheets at fair value and changes in fair value measurements are reflected as adjustments to other comprehensive income (“OCI”) until such time as the actual foreign currency expenditures are made and the unrealized gain/loss is reclassified from accumulated OCI to current earnings. There is generally no or an immaterial amount of ineffectiveness. The notional amount of outstanding forward currency contracts was 7.9 million GBP and 10.4 million GBP at June 30, 2013 and December 31, 2012.
The fair value of derivative instruments on the Company’s condensed consolidated balance sheets are as follows (in thousands):
Balance Sheet Location | June 30, 2013 | December 31, 2012 | ||||||
Derivatives designated as hedging instruments: | ||||||||
Asset derivatives | ||||||||
Prepaid expenses and other current assets | $ | — | $ | 111 | ||||
Liability derivatives | ||||||||
Accounts payable and accrued liabilities | $ | 391 | $ | — | ||||
Derivatives not designated as hedging instruments: | ||||||||
Asset derivatives | ||||||||
Prepaid expenses and other current assets | $ | — | $ | 14 | ||||
Liability derivatives | ||||||||
Accounts payable and accrued expenses | $ | — | $ | 9 |
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The pre-tax effect of the derivative instruments on the Company’s condensed consolidated statements of income is as follows (in thousands):
Location of Gain (Loss) (Effective portion) | Amount of Gain (Loss) Reclassified from Accumulated OCI into Income (Effective portion) | Derivatives in Cash Flow Hedging Relationships | Amount of Gain (Loss) Recognized in OCI on Derivative (Effective portion) | |||||||||||||||
Three Months Ended June 30, 2013 | Six Months Ended June 30, 2013 | Three Months Ended June 30, 2013 | Six Months Ended June 30, 2013 | |||||||||||||||
Cost of services | $ | (118 | ) | $ | (290 | ) | Forward currency contracts | $ | (22 | ) | $ | (1,007 | ) | |||||
Member relations and marketing | (98 | ) | (240 | ) | ||||||||||||||
General & administrative | (47 | ) | (116 | ) | ||||||||||||||
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Total | $ | (263 | ) | $ | (646 | ) | ||||||||||||
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Location of Gain (Loss) (Effective portion) | Amount of Gain (Loss) Reclassified from Accumulated OCI into Income (Effective portion) | Derivatives in Cash Flow Hedging Relationships | Amount of Gain (Loss) Recognized in OCI on Derivative (Effective portion) | |||||||||||||||
Three Months Ended June 30, 2012 | Six Months Ended June 30, 2012 | Three Months Ended June 30, 2012 | Six Months Ended June 30, 2012 | |||||||||||||||
Cost of services | $ | 39 | $ | 45 | Forward currency contracts | $ | (337 | ) | $ | 340 | ||||||||
Member relations and marketing | 32 | 38 | ||||||||||||||||
General & administrative | 16 | 18 | ||||||||||||||||
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Total | $ | 87 | $ | 101 | ||||||||||||||
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Note 11. Income Taxes
The Company computes its provision for income taxes by applying the estimated annual effective tax rate to income from operations and adjusts the provision for discrete tax items recorded during the period. The effective tax rate was 38.4% and 40.4% in the three months ended June 30, 2013 and 2012, respectively, and 37.9% and 40.9% in the six months ended June 30, 2013 and 2012, respectively. The decrease in the effective tax rate for each period is largely due to the tax impact of certain items arising from the SHL acquisition. US income taxes are not provided for the undistributed earnings of the Company’s subsidiaries including SHL, as such earnings are deemed to be permanently reinvested locally.
On July 17, 2013, the UK Finance Act of 2013 received royal assent leading to a scheduled reduction in the UK corporation tax rate to 20% by April 1, 2015. The impact of this legislative change on the Company’s deferred tax assets and liabilities will be accounted for as a discrete item in the three months ending September 30, 2013. As a result, the Company currently anticipates that its 2013 effective tax rate will be approximately 34.0% not including any additional permanent book-tax differences that are not determinable at this time, such as future foreign currency translation gains or losses, or other discrete items that are currently not recognizable under US GAAP.
The Company made income tax payments of $23.5 million and $10.8 million in the three months ended June 30, 2013 and 2012, respectively, and $26.4 million and $11.4 million in the six months ended June 30, 2013 and 2012, respectively.
The Internal Revenue Service commenced an examination of the Company’s US income tax returns for 2008 through 2010 in the second quarter of 2012. Management does not currently believe that the outcome of such examination will have a material adverse effect on the Company’s financial position, results of operations, or cash flows.
Note 12. Earnings per Share
A reconciliation of basic to diluted weighted average common shares outstanding is as follows (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Basic weighted average common shares outstanding | 33,459 | 33,502 | 33,481 | 33,416 | ||||||||||||
Effect of dilutive common shares outstanding | 282 | 216 | 369 | 297 | ||||||||||||
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Diluted weighted average common shares outstanding | 33,741 | 33,718 | 33,850 | 33,713 | ||||||||||||
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Approximately 0.3 million and 1.4 million shares in the three months ended June 30, 2013 and 2012, respectively, and approximately 0.4 million and 1.3 million shares in the six months ended June 30, 2013 and 2012, respectively, have been excluded from the calculation of the dilutive effect shown above because their impact would be anti-dilutive. These shares related to share-based compensation awards.
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Note 13. Commitments and Contingencies
Operating Leases
The Company leases office facilities that expire on various dates through 2028. Generally, the leases carry renewal provisions and rental escalations and require the Company to pay executory costs such as taxes and insurance. Future minimum rental payments under non-cancelable operating leases and future minimum receipts under subleases, excluding executory costs, are as follows at June 30, 2013:
Total | 2013* | YE 2014 | YE 2015 | YE 2016 | YE 2017 | Thereafter | ||||||||||||||||||||||
Operating lease obligations | $ | 623,127 | $ | 22,684 | $ | 49,033 | $ | 48,927 | $ | 49,128 | $ | 46,960 | $ | 406,395 | ||||||||||||||
Sublease receipts | (269,914 | ) | (7,281 | ) | (17,548 | ) | (19,140 | ) | (19,600 | ) | (20,073 | ) | (186,272 | ) | ||||||||||||||
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Total net lease obligations | $ | 353,213 | $ | 15,403 | $ | 31,485 | $ | 29,787 | $ | 29,528 | $ | 26,887 | $ | 220,123 | ||||||||||||||
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* | For the six months ended December 31, 2013. |
Contingencies
From time to time, the Company is subject to litigation related to normal business operations. The Company vigorously defends itself in litigation and is not currently a party to, and the Company’s property is not subject to, any legal proceedings likely to materially affect the Company’s financial results.
The Company continues to evaluate potential tax exposures relating to sales and use, payroll, income and property tax laws, and regulations for various states in which the Company sells or supports its goods and services. Accruals for potential contingencies are recorded by the Company when it is probable that a liability has been incurred and the liability can be reasonably estimated. As additional information becomes available, changes in the estimates of the liability are reported in the period that those changes occur. The Company had a $5.8 million liability at both June 30, 2013 and December 31, 2012, respectively, relating to certain sales and use tax regulations for states in which the Company sells or supports its goods and services. The liability includes $2.6 million recorded in the preliminary purchase price allocation for SHL.
Note 14. Changes in Accumulated Other Comprehensive Income (Loss)
Accumulated other comprehensive income (loss) (“AOCI”) is a balance sheet item in the Shareholders’ Equity section of the Company’s condensed consolidated balance sheets. It is comprised of items that have not been recognized in earnings but may be recognized in earnings in the future when certain events occur. Changes in each component of AOCI in the three and six months ended June 30, 2013 are as follows (in thousands):
Three Months Ended June 30, 2013 | Cash Flow Hedge, Net of Tax | Foreign Currency Translation Adjustments | Total | |||||||||
Balance, March 31, 2013 | $ | (314 | ) | $ | (10,400 | ) | $ | (10,714 | ) | |||
Net unrealized gains (losses) | (12 | ) | — | (12 | ) | |||||||
Reclassification of (gains) losses into earnings | 157 | — | 157 | |||||||||
Net translation of investments in foreign operations | — | (24 | ) | (24 | ) | |||||||
Net translation of intra-entity loans | — | (72 | ) | (72 | ) | |||||||
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Net change in Accumulated other comprehensive income (loss) | 145 | (96 | ) | 49 | ||||||||
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Balance, June 30, 2013 | $ | (169 | ) | $ | (10,496 | ) | $ | (10,665 | ) | |||
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Six Months Ended June 30, 2013 | Cash Flow Hedge, Net of Tax | Foreign Currency Translation Adjustments | Total | |||||||||
Balance, December 31, 2012 | $ | 48 | $ | 27,617 | $ | 27,665 | ||||||
Net unrealized gains (losses) | (604 | ) | — | (604 | ) | |||||||
Reclassification of (gains) losses into earnings | 387 | — | 387 | |||||||||
Net translation of investments in foreign operations | — | (34,100 | ) | (34,100 | ) | |||||||
Net translation of intra-entity loans | — | (4,013 | ) | (4,013 | ) | |||||||
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Net change in Accumulated other comprehensive income (loss) | (217 | ) | (38,113 | ) | (38,330 | ) | ||||||
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Balance, June 30, 2013 | $ | (169 | ) | $ | (10,496 | ) | $ | (10,665 | ) | |||
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The translation impact of the intra-entity loans included in AOCI relates to those intercompany loans which the Company deems to be of a long-term investment nature.
Note 15. Segment Information
The Company manages the business in two reportable segments: CEB and SHL.
The CEB segment, which includes the Company’s historical business operations prior to the SHL acquisition, provides comprehensive data analysis, research, and advisory services that align to executive leadership roles and key recurring decisions. CEB’s products and services focus on several key corporate functions across a wide range of industries. The CEB segment also includes the operations of PDRI, a service provider of customized personnel assessment tools and services to various agencies of the US Government.
The SHL segment, which includes the operations of SHL (other than PDRI) that the Company acquired on August 2, 2012, provides cloud-based solutions for talent assessment and decision support as well as professional services that support those solutions, enabling client access to data, analytics and insights for assessing and managing employees and applicants. SHL provides assessments that assist customers in determining potential candidates for employment and career planning as well as consulting services that are customizations to the assessments.
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Management evaluates the performance of its operating segments based on segment Adjusted revenue, segment Adjusted EBITDA, and segment Adjusted EBITDA margin. The Company defines segment Adjusted revenue as segment revenue before the impact of the reduction of SHL revenue recognized in the post-acquisition period to reflect the adjustment of deferred revenue at the SHL acquisition date to fair value. The Company defines segment Adjusted EBITDA as segment net income (loss) before loss from discontinued operations, net of provision for income taxes; interest expense, net; depreciation and amortization; provision for income taxes; the impact of the deferred revenue fair value adjustment; acquisition related costs; share-based compensation; costs associated with exit activities; restructuring costs; and gain on acquisition. Segment Adjusted EBITDA margin refers to segment Adjusted EBITDA as a percentage of segment Adjusted revenue.
Management uses these non-GAAP financial measures to evaluate and compare segment operating performance. These segment non-GAAP measures may be considered in addition to results prepared in accordance with GAAP, but they should not be considered a substitute for, or superior to, GAAP results.
Information for the Company’s reportable segments is as follows (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Revenue | ||||||||||||||||
CEB segment | $ | 156,818 | $ | 135,718 | $ | 304,957 | $ | 264,185 | ||||||||
SHL segment | 47,792 | — | 89,925 | — | ||||||||||||
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Total revenue | $ | 204,610 | $ | 135,718 | $ | 394,882 | $ | 264,185 | ||||||||
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Adjusted revenue | ||||||||||||||||
CEB segment | $ | 156,818 | $ | 135,718 | $ | 304,957 | $ | 264,185 | ||||||||
SHL segment | 50,742 | — | 97,384 | — | ||||||||||||
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Total Adjusted revenue | $ | 207,560 | $ | 135,718 | $ | 402,341 | $ | 264,185 | ||||||||
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Adjusted EBITDA | ||||||||||||||||
CEB segment | $ | 41,044 | $ | 35,156 | $ | 79,865 | $ | 69,107 | ||||||||
SHL segment | 9,997 | — | 18,358 | — | ||||||||||||
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Total Adjusted EBITDA | $ | 51,041 | $ | 35,156 | $ | 98,223 | $ | 69,107 | ||||||||
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Adjusted EBITDA margin | ||||||||||||||||
CEB segment | 26.2 | % | 25.9 | % | 26.2 | % | 26.2 | % | ||||||||
SHL segment | 19.7 | — | 18.9 | — | ||||||||||||
Total Adjusted EBITDA margin | 24.6 | 25.9 | 24.4 | 26.2 | ||||||||||||
Depreciation and amortization | ||||||||||||||||
CEB segment | $ | 7,085 | $ | 5,935 | $ | 14,292 | $ | 10,964 | ||||||||
SHL segment | 7,698 | — | 15,197 | — | ||||||||||||
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Total depreciation and amortization | $ | 14,783 | $ | 5,935 | $ | 29,489 | $ | 10,964 | ||||||||
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The Company evaluates performance and allocates resources for our segments primarily based on (1) segment revenue adjusted for the impact of the deferred revenue fair value adjustment (“Adjusted segment revenue”) and (2) segment operating income excluding interest expense (income), net; depreciation and amortization; provision for income taxes; impact of the deferred revenue fair value
adjustment; acquisition related costs; share-based compensation; costs associated with exit activities; restructuring costs; and gain on acquisition (“Adjusted segment EBITDA”). Decisions that result from the above items excluded from segment performance measures are made at the corporate level and segment operating results are evaluated excluding these items; thus, they are excluded from the segment operating measures.
The combined total of the reportable segments’ performance measures equals the Company’s consolidated total of each respective performance measure. The accounting policies for the segments are the same as those described in the summary of significant accounting policies in the accompanying notes to consolidated financial statements except that the above noted items are excluded from Adjusted revenue and Adjusted EBITDA. As a result, there are no significant reconciling items requiring reconciliation of the combined segment reporting to the Company’s consolidated totals.
Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations. |
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q. The following discussion includes forward-looking statements that involve certain risks and uncertainties. For additional information regarding forward-looking statements and risk factors, see “Forward-looking statements” and Part II, Item IA. “Risk Factors.”
Executive Overview
We deliver member-based advisory services, talent measurement assessments, and management solutions. We equip senior executives and their teams with essential information, actionable insights, analytical tools, and advisory support. Through our acquisition of SHL, we also provide cloud-based talent measurement and management solutions.
Our acquisition of SHL, headquartered in the UK, significantly increased the breadth and geographic scope of our operations. As a result of the incurrence of substantial new indebtedness and the use of a significant amount of our cash on hand, our financial condition differs significantly from prior periods, and our operating results over the next year will likely not be comparable to our operating results for prior periods and we are more exposed to foreign currency exchange rate fluctuations. Our business now consists of two reportable segments: CEB, including the PDRI business, and the SHL business acquired, excluding PDRI.
CEB Segment
The CEB segment helps senior executives and their teams drive corporate performance by identifying and building on the proven best practices of the world’s best companies. We primarily deliver our products and services to a global client base through annual, fixed-fee membership subscriptions. Billings attributable to memberships for our CEB products and services initially are recorded as deferred revenue and then generally are recognized on a pro-rata basis over the membership contract term, which typically is 12 months. Generally, a member may request a refund of its membership fee during the membership term under our service guarantee. Refunds are provided from the date of the refund request on a pro-rata basis relative to the remaining term of the membership.
We offer comprehensive data analysis, research, and advisory services that align to executive leadership roles and key recurring decisions. To fully support our members, our products and services are offered across a wide range of industries and focus on several key corporate functions including: Finance, Corporate Services, and Corporate Strategy; Human Resources; Information Technology; Legal, Risk, and Compliance; and Sales, Marketing, and Communications.
In addition to these corporate functions, the CEB segment serves operational business leaders in the financial services industry and government agencies through insights, tools, and peer collaboration designed to drive effective executive decision making. The CEB segment also includes the results of operations of PDRI, a service provider of customized personnel assessment tools and services to various agencies of the US government.
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SHL Segment
The SHL segment is a global provider of cloud-based solutions for talent assessment and decision support, enabling client access to data, analytics and insights for assessing and managing employees and applicants. SHL primarily delivers assessments, consulting and training services. Assessment services are available online through metered and subscription arrangements. Consulting services are generally provided to customize assessment services and face to face assessments, delivered for a fixed fee. Training services consist of either bespoke or public courses related to use of assessments. The SHL segment represents the acquired SHL business excluding PDRI.
Non-GAAP Financial Measures
This Quarterly Report on Form 10-Q includes a discussion of Adjusted revenue, Adjusted EBITDA, Adjusted EBITDA margin, Adjusted net income, and Non-GAAP diluted earnings per share, all of which are non-GAAP financial measures provided as a complement to the results provided in accordance with accounting principles generally accepted in the United States of America (“GAAP”).
The term “Adjusted revenue” refers to revenue before the impact of the reduction of SHL revenue recognized in the post-acquisition period to reflect the adjustment of deferred revenue at the SHL acquisition date to fair value (the “deferred revenue fair value adjustment”).
The term “Adjusted EBITDA” refers to net income before loss from discontinued operations, net of provision for income taxes; interest expense, net; depreciation and amortization; provision for income taxes; the impact of the deferred revenue fair value adjustment; acquisition related costs; share-based compensation; costs associated with exit activities; restructuring costs; and gain on acquisition.
The term “Adjusted EBITDA margin” refers to Adjusted EBITDA as a percentage of Adjusted revenue.
The term “Adjusted net income” refers to net income before loss from discontinued operations, net of provision for income taxes and excludes the after tax effects of the impact of the deferred revenue fair value adjustment, acquisition related costs, share-based compensation, amortization of acquisition related intangibles, costs associated with exit activities, restructuring costs, and gain on acquisition.
“Non-GAAP diluted earnings per share” refers to diluted earnings per share before the per share effect of loss from discontinued operations, net of provision for income taxes and excludes the after tax per share effects of the impact of the deferred revenue fair value adjustment, acquisition related costs, share-based compensation, amortization of acquisition related intangibles, costs associated with exit activities, restructuring costs, and gain on acquisition.
We believe that these non-GAAP financial measures are relevant and useful supplemental information for evaluating our results of operations as compared from period to period and as compared to our competitors. We use these non-GAAP financial measures for internal budgeting and other managerial purposes, including comparison against our competitors, when publicly providing our business outlook, and as a measurement for potential acquisitions. These non-GAAP financial measures are not defined in the same manner by all companies and therefore may not be comparable to other similarly titled measures used by other companies.
In connection with the SHL acquisition, we changed the definitions of our non-GAAP measures to adjust for the impact of the deferred revenue fair value adjustment to the opening balance sheet resulting from purchase accounting, amortization of related intangibles, acquisition related costs, and share-based compensation. This change was made to provide a more comprehensive understanding of our core operating results by eliminating the effect of acquisition related items from our GAAP operating results. The SHL acquisition was the first acquisition of sufficient size to cause these items to be significant. We believe that excluding these items is important in illustrating what our core operating results would have been had we not incurred these acquisition related items since the nature, size, and number of acquisitions can vary from period to period.
Our non-GAAP financial measures reflect adjustments based on the following items, as well as the related income tax effects:
• | Certain business combination accounting entries and expenses related to acquisitions: We have adjusted for the impact of the deferred revenue fair value adjustment, amortization of acquisition related intangibles, and acquisition related costs. We incurred significant expenses primarily in connection with our SHL acquisition and also incurred certain other operating expenses, which we generally would not have otherwise incurred in the periods presented as a part of our continuing operations. We believe that excluding these acquisition related items from our non-GAAP financial measures provides useful supplemental information to our investors and is important in illustrating what our core operating results would have been had we not incurred these acquisition related items since the nature, size, and number of acquisitions can vary from period to period. |
• | Share-based compensation: Although share-based compensation is a key incentive offered to our employees, we evaluate our operating results excluding such expense. Accordingly, we exclude share-based compensation from our non-GAAP financial measures because we believe it provides valuable supplemental information that helps investors have a more complete understanding of our operating results. In addition, we believe the exclusion of this expense facilitates the ability of our investors to compare our operating results with those of other peer companies, many of which also exclude such expense in determining their non-GAAP measures, given varying valuation methodologies, subjective assumptions, and the variety and amount of award types that may be utilized. |
These non-GAAP measures may be considered in addition to results prepared in accordance with GAAP, but they should not be considered a substitute for, or superior to, GAAP results. We intend to continue to provide these non-GAAP financial measures as part of our future earnings discussions and, therefore, the inclusion of these non-GAAP financial measures will provide consistency in our financial reporting.
For comparative purposes, the prior year non-GAAP measures have been recast to conform to the current definitions.
A reconciliation of each of the non-GAAP measures to the most directly comparable GAAP measure is provided below (in thousands).
The table below reconciles Revenue to Adjusted revenue (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Revenue | $ | 204,610 | $ | 135,718 | $ | 394,882 | $ | 264,185 | ||||||||
Impact of deferred revenue fair value adjustment | 2,950 | — | 7,459 | — | ||||||||||||
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Adjusted revenue | $ | 207,560 | $ | 135,718 | $ | 402,341 | $ | 264,185 | ||||||||
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The table below reconciles Net income to Adjusted EBITDA (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Net income | $ | 13,568 | $ | 14,765 | $ | 24,776 | $ | 30,326 | ||||||||
Interest expense (income), net | 6,174 | (58 | ) | 12,523 | (135 | ) | ||||||||||
Depreciation and amortization | 14,783 | 5,935 | 29,489 | 10,964 | ||||||||||||
Provision for income taxes | 8,451 | 9,993 | 15,097 | 20,987 | ||||||||||||
Impact of the deferred revenue fair value adjustment | 2,950 | — | 7,459 | — | ||||||||||||
Acquisition related costs | 2,024 | 2,253 | 3,022 | 2,729 | ||||||||||||
Share-based compensation | 3,091 | 2,268 | 5,857 | 4,236 | ||||||||||||
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Adjusted EBITDA | $ | 51,041 | $ | 35,156 | $ | 98,223 | $ | 69,107 | ||||||||
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Adjusted EBITDA margin | 24.6 | % | 25.9 | % | 24.4 | % | 26.2 | % | ||||||||
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The table below reconciles Net income to Adjusted net income (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Net income | $ | 13,568 | $ | 14,765 | $ | 24,776 | $ | 30,326 | ||||||||
Impact of the deferred revenue fair value adjustment (1) | 2,100 | — | 5,310 | — | ||||||||||||
Acquisition related costs (1) | 1,334 | 1,344 | 1,958 | 1,623 | ||||||||||||
Share-based compensation (1) | 1,915 | 1,361 | 3,605 | 2,543 | ||||||||||||
Amortization of acquisition related intangibles (1) | 5,844 | 913 | 11,799 | 1,738 | ||||||||||||
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Adjusted net income | $ | 24,761 | $ | 18,383 | $ | 47,448 | $ | 36,230 | ||||||||
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(1) | Adjustments are net of the estimated income tax effect using statutory rates based on the relative amounts allocated to each jurisdiction in the applicable period. The following income rates were used: 29% for the deferred revenue fair value adjustment; 37% for acquisition related costs; 39% for share-based compensation; and 32% for amortization of acquisition related intangibles. |
The table below reconciles Diluted earnings per share to Non-GAAP diluted earnings per share:
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Diluted earnings per share | $ | 0.40 | $ | 0.44 | $ | 0.73 | $ | 0.90 | ||||||||
Impact of the deferred revenue fair value adjustment | 0.06 | — | 0.16 | — | ||||||||||||
Acquisition related costs | 0.04 | 0.04 | 0.05 | 0.05 | ||||||||||||
Share-based compensation | 0.06 | 0.04 | 0.11 | 0.08 | ||||||||||||
Amortization of acquisition related intangibles | 0.17 | 0.03 | 0.35 | 0.05 | ||||||||||||
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Non-GAAP diluted earnings per share | $ | 0.73 | $ | 0.55 | $ | 1.40 | $ | 1.08 | ||||||||
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Critical Accounting Policies
Our accounting policies require us to apply methodologies, estimates and judgments that have a significant impact on the results we report in our consolidated financial statements. In our 2012 Annual Report on Form 10-K, we discussed those material policies that we believe are critical and require the use of complex judgment in their application. There have been no changes to our critical accounting policies since that time.
Consolidated Results of Operations
The following table presents an overview of our results of operations (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Revenue | $ | 204,610 | $ | 135,718 | $ | 394,882 | $ | 264,185 | ||||||||
Costs and expenses: | ||||||||||||||||
Cost of services | 75,797 | 47,372 | 146,788 | 90,979 | ||||||||||||
Member relations and marketing | 58,238 | 38,615 | 113,896 | 76,741 | ||||||||||||
General and administrative | 25,253 | 16,040 | 50,470 | 32,124 | ||||||||||||
Acquisition related costs | 2,024 | 2,253 | 3,022 | 2,729 | ||||||||||||
Depreciation and amortization | 14,783 | 5,935 | 29,489 | 10,964 | ||||||||||||
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Total costs and expenses | 176,095 | 110,215 | 343,665 | 213,537 | ||||||||||||
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Operating profit | 28,515 | 25,503 | 51,217 | 50,648 | ||||||||||||
Other (expense) income, net | ||||||||||||||||
Interest income and other | (256 | ) | (617 | ) | 1,296 | 930 | ||||||||||
Interest expense | (6,240 | ) | (128 | ) | (12,640 | ) | (265 | ) | ||||||||
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Total other (expense) income, net | (6,496 | ) | (745 | ) | (11,344 | ) | 665 | |||||||||
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Income before provision for income taxes | 22,019 | 24,758 | 39,873 | 51,313 | ||||||||||||
Provision for income taxes | 8,451 | 9,993 | 15,097 | 20,987 | ||||||||||||
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Net income | $ | 13,568 | $ | 14,765 | $ | 24,776 | $ | 30,326 | ||||||||
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Revenue was $204.6 million and $135.7 million in the three months ended June 30, 2013 and 2012, respectively. Revenue was $394.9 million and $264.2 million in the six months ended June 30, 2013 and 2012, respectively. Total costs and expenses were $176.1 million and $110.2 million in the three months ended June 30, 2013 and 2012, respectively. Total costs and expenses were $343.7 million and $213.5 million in the six months ended June 30, 2013 and 2012, respectively. Operating results include the impact of acquired companies from the date of acquisition: Valtera, Inc. (“Valtera”) was acquired on February 4, 2012 and SHL was acquired on August 2, 2012.
Adjusted revenue was $207.6 million and $135.7 million in the three months ended June 30, 2013 and 2012, respectively. Adjusted revenue was $402.3 million and $264.2 million in the six months ended June 30, 2013 and 2012, respectively. Adjusted EBITDA was $51.0 million and $35.2 million in the three months ended June 30, 2013 and 2012, respectively. Adjusted EBITDA was $98.2 million and $69.1 million in the six months ended June 30, 2013 and 2012, respectively. The increase in both Adjusted revenue and Adjusted EBITDA are a result of increased sales and revenue.
See “Segment Results” below for a discussion of revenue and costs and expenses by segment.
Our operating costs and expenses consist of:
• | Cost of services, which represents the costs associated with the production and delivery of our services and products, consisting of compensation, including share-based compensation; internal and external product advisors; the organization and delivery of membership meetings, seminars, and other events; third-party consulting; ongoing product development costs; production of published materials, costs of developing and supporting our membership Web platform and digital delivery of services and products; and associated support services. |
• | Member relations and marketing, which represents the costs of acquiring new customers and the costs of account management, consisting of compensation, including sales incentives and share-based compensation; travel and related expenses; recruiting and training of personnel; sales and marketing materials; and associated support services, as well as the costs of maintaining our customer relationship management software. |
• | General and administrative, which represents the costs associated with the corporate and administrative functions, including human resources and recruiting, finance and accounting, legal, management information systems, facilities management, business development, and other. Costs include compensation, including share-based compensation; third-party consulting and compliance expenses; and associated support services. |
• | Acquisition related costs represent transaction and integration costs incurred in connection with acquisitions. |
• | Depreciation and amortization, consisting of amortization of intangible assets and depreciation of our property and equipment, including leasehold improvements, furniture, fixtures and equipment, capitalized software and website development costs. |
Other (Expense) Income, net
The following table presents the components of Other (expense) income, net (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Interest expense | $ | (6,240 | ) | $ | (128 | ) | $ | (12,640 | ) | $ | (265 | ) | ||||
(Decrease) Increase in fair value of deferred compensation plan assets | (210 | ) | (395 | ) | 625 | 751 | ||||||||||
Foreign currency (loss) gain | (112 | ) | (397 | ) | (64 | ) | (216 | ) | ||||||||
Interest income | 66 | 186 | 118 | 400 | ||||||||||||
Other | — | (11 | ) | 617 | (5 | ) | ||||||||||
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Other (expense) income, net | $ | (6,496 | ) | $ | (745 | ) | $ | (11,344 | ) | $ | 665 | |||||
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The increase in interest expense reflects the costs of the borrowings incurred for the SHL acquisition.
Provision for Income Taxes
The effective tax rate was 38.4% and 40.4% in the three months ended June 30, 2013 and 2012, respectively, and 37.9% and 40.9% in the six months ended June 30, 2013 and 2012, respectively. The decrease in the effective tax rate for each period is largely due to the tax impact of certain items arising from the SHL acquisition. Our provision for income taxes differs from the US statutory rate of 35% primarily due to state income taxes, foreign income taxed at rates other than the US statutory rate, nondeductible expenses, and certain foreign currency losses realized for tax purposes. US income taxes are not provided for the undistributed earnings of our subsidiaries including SHL, as such earnings are deemed to be permanently reinvested locally.
On July 17, 2013, the UK Finance Act of 2013 received royal assent leading to a scheduled reduction in the UK main corporation tax rate to 20% by April 1, 2015. The impact of this legislative change on our deferred tax assets and liabilities will be accounted for as a discrete item in the three months ending September 30, 2013. As a result, we currently anticipate that our 2013 effective tax rate will be approximately 34.0% not including any additional permanent book-tax differences that are not determinable at this time, such as future foreign currency translation gains or losses, or other discrete items that are currently not recognizable under US GAAP.
We made income tax payments of $23.5 million and $10.8 million in the three months ended June 30, 2013 and 2012, respectively, and $26.4 million and $11.4 million in the six months ended June 30, 2013 and 2012, respectively.
The Internal Revenue Service commenced an examination of our US income tax returns for 2008 through 2010 in the second quarter of 2012. Management does not currently believe that the outcome of such examination will have a material adverse effect on our financial position, results of operations, or cash flows.
17
Table of Contents
Segment Results
CEB Segment Executive Overview
Revenue was $156.8 million and $135.7 million in the three months ended June 30, 2013 and 2012, respectively. Revenue was $305.0 million and $264.2 million in the six months ended June 30, 2013 and 2012, respectively. Total costs and expenses were $125.9 million and $110.2 million in the three months ended June 30, 2013 and 2012, respectively. Total costs and expenses were $247.6 million and $213.5 million in the six months ended June 30, 2013 and 2012, respectively. Operating results include the impact of acquired companies from the date of acquisition: Valtera, Inc. (“Valtera”) was acquired on February 4, 2012 and PDRI was acquired on August 2, 2012. The three and six months ended June 30, 2013 included $6.3 million and $13.1 million, respectively, of revenue from PDRI.
Adjusted EBITDA was $41.0 million and $35.2 million in the three months ended June 30, 2013 and 2012, respectively. Adjusted EBITDA was $79.9 million and $69.1 million in the six months ended June 30, 2013 and 2012, respectively. The increase in Adjusted EBITDA is primarily due to an increase in revenue as noted by the increase in Contract Value and discussed in “CEB Segment Revenue” below. Adjusted EBITDA Margin was 26.2% and 25.9% in the three months ended June 30, 2013 and 2012, respectively. Adjusted EBITDA margin was 26.2% in the six months ended June 30, 2013 and 2012. Also, with our updated definitions of non-GAAP financial measures, we can more clearly monitor comparative financial results without the impact of acquisition related items, such as acquisition related costs and interest expense related to our debt.
CEB Segment Operating Data
June 30, | ||||||||
2013 | 2012 | |||||||
CEB segment Contract Value (in thousands) (1) | $ | 567,220 | $ | 512,660 | ||||
CEB segment Member institutions | 6,189 | 5,909 | ||||||
CEB segment Contract Value per member institution | $ | 91,645 | $ | 86,756 | ||||
CEB segment Wallet retention rate (2) | 99 | % | 100 | % |
(1) | We define “CEB segment Contract Value” as the aggregate annualized revenue attributed to all agreements in effect at a given date without regard to the remaining duration of any such agreement. CEB Contract Value does not include the impact of PDRI. |
(2) | We define “CEB segment Wallet retention rate,” at the end of the quarter, as the total current year CEB segment Contract Value from prior year members as a percentage of the total prior year CEB segment Contract Value. The CEB segment Wallet retention rate does not include the impact of PDRI. |
CEB segment Contract Value increased $54.6 million, or 10.6%, at June 30, 2013 compared to June 30, 2012 primarily as a result of increased sales to new and existing large corporate members, and price increases.
CEB Segment Results of Operations
The financial results presented below include the results of operations for the CEB segment (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Revenue | $ | 156,818 | $ | 135,718 | $ | 304,957 | $ | 264,185 | ||||||||
Costs and expenses: | ||||||||||||||||
Cost of services | 57,262 | 47,372 | 110,810 | 90,979 | ||||||||||||
Member relations and marketing | 43,048 | 38,615 | 85,762 | 76,741 | ||||||||||||
General and administrative | 17,340 | 16,040 | 34,748 | 32,124 | ||||||||||||
Acquisition related costs | 1,189 | 2,253 | 2,019 | 2,729 | ||||||||||||
Depreciation and amortization | 7,085 | 5,935 | 14,292 | 10,964 | ||||||||||||
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Total costs and expenses | 125,924 | 110,215 | 247,631 | 213,537 | ||||||||||||
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Operating profit | 30,894 | 25,503 | 57,326 | 50,648 | ||||||||||||
Other (expense) income, net | ||||||||||||||||
Interest income and other | (803 | ) | (617 | ) | 989 | 930 | ||||||||||
Interest expense | (6,240 | ) | (128 | ) | (12,640 | ) | (265 | ) | ||||||||
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Total other (expense) income, net | (7,043 | ) | (745 | ) | (11,651 | ) | 665 | |||||||||
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Income before provision for income taxes | 23,851 | 24,758 | 45,675 | 51,313 | ||||||||||||
Provision for income taxes | 9,384 | 9,993 | 16,438 | 20,987 | ||||||||||||
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Net income | $ | 14,467 | $ | 14,765 | $ | 29,237 | $ | 30,326 | ||||||||
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Reconciliation of CEB segment net income to segment Adjusted EBITDA (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Segment net income | $ | 14,467 | $ | 14,765 | $ | 29,237 | $ | 30,326 | ||||||||
Interest expense (income), net | 6,174 | (58 | ) | 12,523 | (135 | ) | ||||||||||
Depreciation and amortization | 7,085 | 5,935 | 14,292 | 10,964 | ||||||||||||
Provision for income taxes | 9,384 | 9,993 | 16,438 | 20,987 | ||||||||||||
Acquisition related costs | 1,189 | 2,253 | 2,019 | 2,729 | ||||||||||||
Share-based compensation | 2,745 | 2,268 | 5,356 | 4,236 | ||||||||||||
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Segment Adjusted EBITDA | $ | 41,044 | $ | 35,156 | $ | 79,865 | $ | 69,107 | ||||||||
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Segment Adjusted EBITDA margin | 26.2 | % | 25.9 | % | 26.2 | % | 26.2 | % | ||||||||
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Table of Contents
CEB Segment Revenue
In the three months ended June 30, 2013, revenue increased $21.1 million, or 15.5%, to $156.8 million from $135.7 million in the three months ended June 30, 2012. Revenue increased $40.8 million, or 15.4%, to $305.0 million from $264.2 million in the six months ended June 30, 2013 versus the same period of 2012.
The increases in 2013 were primarily due to an increase in sales bookings with new and existing customers. In addition, the three and six months ended June 30, 2013 included $6.3 million and $13.1 million, respectively, of revenue from PDRI.
CEB Segment Costs and Expenses
In the three months ended June 30, 2013 and 2012, costs and expenses were $125.9 million and $110.2 million, respectively. In the six months ended June 30, 2013 and 2012, costs and expenses were $247.6 million and $213.5 million, respectively. Changes in compensation and related costs, variable compensation, share-based compensation, third-party consulting, travel and related expenses, allocated facilities costs, additional costs from the businesses we acquired, and the impact of changes in the exchange rates of the US dollar to the British pound sterling all contributed to year-over-year variances in costs and expenses. These items are allocated to Cost of services, Member relations and marketing, and General and administrative expenses. In 2013, costs and expenses include the full impact of the Valtera and PDRI acquisitions. We discuss the major components of costs and expenses on an aggregate basis below:
• | Compensation and related costs includes salaries, payroll taxes and benefits. The total expense was $63.2 million and $55.6 million in the three months ended June 30, 2013 and 2012, respectively, an increase of $7.6 million. The total expense was $124.3 million and $108.3 million in the six months ended June 30, 2013 and 2012, respectively, an increase of $16.0 million. The increase was primarily due to headcount and salary increases, including the impact of the acquisitions discussed above. |
• | Variable compensation includes sales commissions and annual bonuses. Total expense was $16.9 million and $15.2 million in the three months ended June 30, 2013 and 2012, respectively, an increase of $1.7 million. The increase was primarily due to an increase in the estimated payout of annual bonuses due primarily to increased headcount. Total expense was $33.6 million and $29.6 million in the six months ended June 30, 2013 and 2012, respectively, an increase of $4.0 million. The increase was primarily due to a $2.3 million increase in the estimated payout of annual bonuses due primarily to increased headcount and a $1.0 million increase in sales incentives resulting from increased sales bookings. |
• | Share-based compensation costs were $2.7 million and $2.3 million in the three months ended June 30, 2013 and 2012, respectively, an increase of $0.4 million. Share-based compensation costs were $5.2 million and $4.2 million in the six months ended June 30, 2013 and 2012, respectively, an increase of $1.0 million. The increases were primarily due to increases in the total fair value of awards granted from 2010 through the present, which vest over a four year period. |
• | Third-party consulting costs include development costs for member facing technology, the use of third parties to deliver services to customers and external resources supporting the technology and finance departments. Total expense was $6.0 million and $5.0 million in the three months ended June 30, 2013 and 2012, respectively, an increase of $1.0 million. Total expense was $12.1 million and $9.7 million in the six months ended June 30, 2013 and 2012, respectively, an increase of $2.4 million. The increases were primarily due to an increase in the use of consultants for member-facing technology development, the delivery of services, and the implementation of operating systems enhancements. |
• | Travel and related expenses were $7.0 million and $6.0 million in the three months ended June 30, 2013 and 2012, respectively, an increase of $1.0 million. Travel and related expenses were $13.7 million and $12.0 million in the six months ended June 30, 2013 and 2012, respectively, an increase of $1.7 million. The increases were primarily due to increased costs incurred in the delivery of advisory and research services. |
• | Allocated facilities costs, consisting primarily of rent, operating expenses, and real estate tax escalations, were $7.3 million and $6.8 million in the three months ended June 30, 2013 and 2012, respectively, an increase of $0.5 million. Allocated facilities costs were $13.8 million and $13.2 million in the six months ended June 30, 2013 and 2012, respectively, an increase of $0.6 million. |
• | CEB segment operating expenses are impacted by currency fluctuations, primarily in the value of the GBP compared to the US dollar. The value of the GBP versus the US dollar was approximately $0.04 lower, on average, in the three and six months ended June 30, 2013 compared to the same periods of 2012. Costs incurred for foreign subsidiaries will fluctuate based on changes in foreign currency rates in addition to other operational factors. We enter into cash flow hedges for our CEB UK subsidiary to mitigate foreign currency risk, which offsets a portion of the impact foreign currency fluctuations have on the segment’s costs and expenses. |
Cost of Services
The following table outlines the primary components of Cost of services (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||||
2013 | % of Revenues | 2012 | % of Revenues | 2013 | % of Revenues | 2012 | % of Revenues | |||||||||||||||||||||||||
Compensation and related | $ | 31,874 | 20.3 | % | $ | 26,667 | 19.6 | % | $ | 61,732 | 20.2 | % | $ | 51,266 | 19.4 | % | ||||||||||||||||
Variable compensation | 5,855 | 3.7 | 4,742 | 3.5 | 11,423 | 3.7 | 9,230 | 3.5 | ||||||||||||||||||||||||
Allocated facilities | 3,140 | 2.0 | 2,851 | 2.1 | 5,889 | 1.9 | 5,495 | 2.1 | ||||||||||||||||||||||||
Third-party consulting | 4,526 | 2.9 | 3,208 | 2.4 | 8,926 | 2.9 | 5,781 | 2.2 | ||||||||||||||||||||||||
Travel and related | 3,278 | 2.1 | 2,924 | 2.2 | 6,333 | 2.1 | 5,497 | 2.1 | ||||||||||||||||||||||||
Share-based compensation | 1,016 | 0.6 | 895 | 0.7 | 1,942 | 0.6 | 1,570 | 0.6 |
Cost of services increased 20.9%, or $9.9 million, to $57.3 million in the three months ended June 30, 2013 from $47.4 million in the three months ended June 30, 2012. The $5.2 million increase in compensation and related costs was primarily due to headcount and salary increases at CEB and acquired headcount from PDRI. The $1.2 million increase in variable compensation was due to an increase in estimated annual bonus payout as a result of increased headcount. The $1.3 million increase in third-party consulting expense relates to an increase in CEB and PDRI outsourced service deliveries.
Cost of services increased 21.8%, or $19.8 million, to $110.8 million in the six months ended June 30, 2013 from $91.0 million in the three months ended June 30, 2012. The $10.4 million increase in compensation and related costs was primarily due to headcount and salary increases at CEB and acquired headcount from PDRI. The $2.2 million increase in variable compensation was due to an increase in estimated annual bonus payout as a result of increased headcount and acquired headcount from PDRI. The $3.1 million increase in third-party consulting expense relates to an increase in CEB and PDRI outsourced service deliveries. The $0.8 million increase in travel and related costs is primarily due to increase costs incurred in the delivery of advisory and research services.
Cost of services as a percentage of revenue was 36.5% and 36.3% in the three and six months ended June 30, 2013, respectively. Cost of services as a percentage of revenue was 34.9% and 34.4% in the three and six months ended June 30, 2012, respectively.
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Member Relations and Marketing
The following table outlines the primary components of Member relations and marketing (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||||
2013 | % of Revenues | 2012 | % of Revenues | 2013 | % of Revenues | 2012 | % of Revenues | |||||||||||||||||||||||||
Compensation and related | $ | 22,072 | 14.1 | % | $ | 19,942 | 14.7 | % | $ | 44,149 | 14.5 | % | $ | 39,690 | 15.0 | % | ||||||||||||||||
Variable compensation | 9,219 | 5.9 | 8,758 | 6.5 | 18,123 | 5.9 | 16,895 | 6.4 | ||||||||||||||||||||||||
Allocated facilities | 3,365 | 2.1 | 2,939 | 2.2 | 6,311 | 2.1 | 5,845 | 2.2 | ||||||||||||||||||||||||
Third-party consulting | 301 | 0.2 | 741 | 0.5 | 1,137 | 0.4 | 1,385 | 0.5 | ||||||||||||||||||||||||
Travel and related | 3,113 | 2.0 | 2,735 | 2.0 | 6,187 | 2.0 | 5,611 | 2.1 | ||||||||||||||||||||||||
Share-based compensation | 606 | 0.4 | 476 | 0.4 | 1,086 | 0.4 | 848 | 0.3 |
Member relations and marketing increased 11.4%, or $4.4 million, to $43.0 million in the three months ended June 30, 2013 from $38.6 million in the three months ended June 30, 2012. The $2.2 million increase in compensation and related costs was primarily due to headcount and salary increases at CEB and acquired headcount from PDRI. The $0.4 million increase in variable compensation was due to an increase in sales incentives resulting from higher sales bookings and estimated annual bonus payouts as a result of increased headcount. These increases were partially offset by a $0.4 million decrease in third party consulting fees.
Member relations and marketing increased 11.9%, or $9.1 million, to $85.8 million in the six months ended June 30, 2013 from $76.7 million in the six months ended June 30, 2012. The $4.4 million increase in compensation and related costs was primarily due to headcount and salary increases at CEB and acquired headcount from PDRI. The $1.2 million increase in variable compensation was due to an increase in sales incentive rates and estimated annual bonus payouts as a result of increased headcount. Share-based compensation expense increased $0.3 million primarily due an increase in the total fair value of awards granted in 2010 through 2012. These increases were partially offset by a $0.3 million decrease in third party consulting fees.
Member relations and marketing expense as a percentage of revenue was 27.4% and 28.1% in the three and six months ended June 30, 2013, respectively. Member relations and marketing expense as a percentage of revenue was 28.5% and 29.0% in the three and six months ended June 30, 2012, respectively.
General and Administrative
The following table outlines the primary components of General and administrative (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||||
2013 | % of Revenues | 2012 | % of Revenues | 2013 | % of Revenues | 2012 | % of Revenues | |||||||||||||||||||||||||
Compensation and related | $ | 9,235 | 5.9 | % | $ | 9,019 | 6.6 | % | $ | 18,467 | 6.1 | % | $ | 17,363 | 6.6 | % | ||||||||||||||||
Variable compensation | 1,846 | 1.2 | 1,672 | 1.2 | 4,049 | 1.3 | 3,448 | 1.3 | ||||||||||||||||||||||||
Allocated facilities | 835 | 0.5 | 982 | 0.7 | 1,640 | 0.5 | 1,893 | 0.7 | ||||||||||||||||||||||||
Third-party consulting | 1,215 | 0.8 | 1,042 | 0.8 | 2,022 | 0.7 | 2,580 | 1.0 | ||||||||||||||||||||||||
Share-based compensation | 1,083 | 0.7 | 891 | 0.7 | 2,176 | 0.7 | 1,814 | 0.7 |
General and administrative increased 8.1%, or $1.3 million, to $17.3 million in the three months ended June 30, 2013 from $16.0 million in the three months ended June 30, 2012. The increase is primarily due to PDRI.
General and administrative increased 8.1%, or $2.6 million, to $34.7 million in the six months ended June 30, 2013 from $32.1 million in the six months ended June 30, 2012. The $1.1 million increase in compensation and related costs was primarily due to headcount and salary increases at CEB and acquired headcount from PDRI. The $0.6 million increase in variable compensation was due to an increase in estimated annual bonus payout as a result of increased headcount. Share-based compensation expense increased $0.4 million primarily due an increase in the total fair value of awards granted in 2010 through 2012. These increases were partially offset by a $0.6 million decrease in third party consulting fees.
General and administrative expense as a percentage of revenue was 11.0% and 11.4% in the three and six months ended June 30, 2013, respectively. General and administrative expense as a percentage of revenue was 11.8% and 12.2% in the three and six months ended June 30, 2012, respectively.
Acquisition Related Costs
Acquisition related costs were $1.2 million and $2.3 million in the three months ended June 30, 2013 and 2012, respectively. Acquisition related costs were $2.0 million and $2.7 million in the six months ended June 30, 2013 and 2012, respectively. Acquisition related costs in the three and six months ended June 30, 2013 primarily relate to the integration of SHL. Acquisition related costs in the three and six months ended June 30, 2012 primarily relate to transaction costs associated with the SHL acquisition.
Depreciation and Amortization
Depreciation and amortization increased 20.3%, or $1.2 million, to $7.1 million in the three months ended June 30, 2013 from $5.9 million in the three months ended June 30, 2012. Depreciation and amortization increased 30.0%, or $3.3 million, to $14.3 million in the six months ended June 30, 2013 from $11.0 million in the six months ended June 30, 2012. The following table outlines the primary components of Depreciation and amortization (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2013 | 2012 | 2013 | 2012 | |||||||||||||
Depreciation | $ | 4,669 | $ | 4,432 | $ | 9,330 | $ | 8,100 | ||||||||
Amortization | 2,416 | 1,503 | 4,962 | 2,864 |
Depreciation increased $0.3 million and $1.2 million in the three and six months ended June 30, 2013, respectively, over the same periods in the prior year. The increases are primarily the result of an increase in capitalizable purchases related primarily to investments in hardware and software purchased for the integration of SHL and equipment to support headcount growth and investments in member-facing technology. Amortization increased $0.9 million and $2.1 million in the three and six months ended June 30, 2013, respectively, over the same periods in the prior year. The increases are due primarily to the amortization of PDRI intangible assets.
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Depreciation and amortization expense as a percentage of revenue was 4.5% and 4.7% in the three and six months ended June 30, 2013, respectively. Depreciation and amortization expense as a percentage of revenue was 4.4% and 4.2% in the three and six months ended June 30, 2012, respectively.
PDRI
We test our goodwill for impairment annually on October 1, or whenever events or changes in circumstances indicate impairment may have occurred, by comparing its fair value to its carrying value. We are beginning to see the effects of the US Federal government budgeting challenges in our CEB segment, primarily in the recently acquired PDRI business. PDRI, which is a reporting unit for purposes of evaluating goodwill impairment, continues to submit proposals for work in 2014 and beyond. Due to the timing of the federal budget, the most active time for submitting proposals is the second half of the calendar year. The outcome of this process in the current year will provide us with more visibility into the potential operating results of the PDRI business over the next several years. We have the ability to respond to the potentially different outcomes of this process. Lower sales bookings, however, may result in a decrease in revenue and cash flows from operations. Depending on the various outcomes that may arise through this process, we may reallocate resources to find additional revenue channels or may implement expense control measures to maintain profit margins within an acceptable range. At June 30, 2013, the carrying value of the PDRI reporting unit includes $40.4 million of goodwill and $33.5 million of amortizable intangible assets, the largest of component of which is the customer list. If our sales teams do not achieve the 2014 bookings target or we obtain new information that would impact our estimates of operating results in future periods, the result of updating these estimates may result in an impairment of these assets.
SHL Segment Executive Overview
Revenue was $47.8 million and $89.9 million in the three and six months ended June 30, 2013, respectively. Adjusted revenue, which refers to revenue before the impact of the deferred revenue fair value adjustment, was $50.7 million and $97.4 million in the three and six months ended June 30, 2013, respectively. Total costs and expenses were $50.2 million and $96.0 million in the three and six months ended June 30, 2013, respectively. Adjusted EBITDA was $10.0 million and $18.4 million in the three and six months ended June 30, 2013, respectively. Adjusted EBITDA margin was 19.7% and 18.9% in the three and six months ended June 30, 2013, respectively.
For the SHL segment results of operations discussion and analysis, we have included a comparison of post-acquisition results to pre-acquisition pro forma combined results in order to provide the most meaningful comparison of period-to-period results as further described in the Current Report on Form 8-K we filed on March 29, 2013. The unaudited supplemental pro forma segment data is based on the historical consolidated financial statements of SHL and assumes the SHL acquisition had been consummated on January 1, 2012. The unaudited supplemental pro forma segment data has not been prepared in accordance with GAAP or the rules and regulations of the US Securities and Exchange Commission. Accordingly, the following unaudited pro forma amounts are for illustrative purposes only and do not purport to be indicative of the results that would have been obtained if the acquisition had occurred on January 1, 2012 and should not be construed as representative of the future consolidated results of operations or financial condition of the combined entity.
Adjusted revenue increased 8.6%, or $4.0 million, in the three months ended June 30, 2013 versus pro forma revenue in the same period of 2012. Adjusted revenue increased 5.5%, or $5.1 million, in the six months ended June 30, 2013 versus pro forma revenue in the same period of 2012. Adjusted EBITDA increased 19.6%, or $1.6 million, in the three months ended June 30, 2013 compared to the three months ended March 31, 2013. The increase in Adjusted revenue in the three and six months ended June 30, 2013 compared to the pro forma revenue in the same periods in the prior year are primarily a result of higher sales bookings in the second quarter of 2013. The increase in sales bookings has also favorably impacted adjusted EBITDA.
SHL Segment Results of Operations
The financial results presented below include the results of operations for the SHL segment (in thousands):
Three Months | Six Months | |||||||
Ended June 30, | Ended June 30, | |||||||
2013 | 2013 | |||||||
Revenue | $ | 47,792 | $ | 89,925 | ||||
Costs and expenses: | ||||||||
Cost of services | 18,535 | 35,978 | ||||||
Member relations and marketing | 15,190 | 28,134 | ||||||
General and administrative | 7,913 | 15,722 | ||||||
Acquisition related costs | 835 | 1,003 | ||||||
Depreciation and amortization | 7,698 | 15,197 | ||||||
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Total costs and expenses | 50,171 | 96,034 | ||||||
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Operating loss | (2,379 | ) | (6,109 | ) | ||||
Other (expense) income, net | ||||||||
Interest income and other | 547 | 307 | ||||||
Interest expense | — | — | ||||||
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Total other income, net | 547 | 307 | ||||||
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Loss before provision for income taxes | (1,832 | ) | (5,802 | ) | ||||
Provision for income taxes | (933 | ) | (1,341 | ) | ||||
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Net loss | $ | (899 | ) | $ | (4,461 | ) | ||
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Reconciliation of SHL segment revenue to segment Adjusted revenue (in thousands):
Three Months ended June 30, | Six Months ended June 30, | |||||||||||||||
2103 | Pro Forma 2012 | 2013 | Pro Forma 2012 | |||||||||||||
Segment revenue | $ | 47,792 | $ | 46,705 | $ | 89,925 | $ | 92,331 | ||||||||
Impact of the deferred revenue fair value adjustment | 2,950 | — | 7,459 | — | ||||||||||||
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Segment Adjusted revenue | $ | 50,742 | $ | 46,705 | $ | 97,384 | $ | 92,331 | ||||||||
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Reconciliation of SHL segment net loss to segment Adjusted EBITDA (in thousands):
Three Months | Six Months | |||||||
Ended June 30, | Ended June 30, | |||||||
2013 | 2013 | |||||||
Segment net loss | $ | (899 | ) | $ | (4,461 | ) | ||
Interest expense (income), net | — | — | ||||||
Depreciation and amortization | 7,698 | 15,197 | ||||||
Provision for income taxes | (933 | ) | (1,341 | ) | ||||
Impact of the deferred revenue fair value adjustment | 2,950 | 7,459 | ||||||
Acquisition related costs | 835 | 1,003 | ||||||
Share-based compensation | 346 | 501 | ||||||
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Segment Adjusted EBITDA | $ | 9,997 | $ | 18,358 | ||||
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Segment Adjusted EBITDA margin | 19.7 | % | 18.9 | % | ||||
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Revenue
Revenue in the three and six months ended June 30, 2013 was $47.8 million and $89.9 million, respectively. Adjusted revenue in the three and six months ended June 30, 2013 was $50.7 million and $97.4 million, respectively. Pro forma revenue in the three and six months ended June 30, 2012 was $46.7 million and $92.3 million, respectively. Deferred revenue at the acquisition date was recorded at fair value based on the estimated cost to provide the related services plus a reasonable profit margin on such costs. The reduction in deferred revenue from SHL’s historical cost to fair value was approximately $34 million. Of this amount, $17.1 million would have been recognized in 2012, and $7.5 million would have been recognized in the six months ended June 30, 2013. The remaining $9.4 million would have been recognized primarily in 2014.
SHL Segment Costs and Expenses
In the three and six months ended June 30, 2013, costs and expenses were $50.2 million and $96.0 million, respectively. Changes in compensation and related costs, variable compensation, travel and related costs, facilities costs, third-party consulting and the impact of changes in the exchange rates of GBP against the US dollar, Euro and other currencies all contributed to year-over-year variances in costs and expenses. These items are allocated to Cost of services, Member relations and marketing, and General and administrative expenses.
Cost of Services
Cost of services in the three and six months ended June 30, 2013 were $18.5 million and $36.0 million, respectively. Pro forma Cost of services in the three and six months ended June 30, 2012 were $16.4 million and $32.8 million, respectively. A summary of the primary components is included in the table below for comparative purposes (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||||
2013 | % of Adjusted Revenues | Pro Forma 2012 | % of Pro Forma Revenues | 2013 | % of Adjusted Revenues | Pro Forma 2012 | % of Pro Forma Revenues | |||||||||||||||||||||||||
Compensation and related | $ | 11,320 | 22.3 | % | $ | 9,947 | 21.3 | % | $ | 22,512 | 23.1 | % | $ | 19,870 | 21.5 | % | ||||||||||||||||
Variable compensation | 820 | 1.6 | 566 | 1.2 | 1,745 | 1.8 | 1,145 | 1.2 | ||||||||||||||||||||||||
Third party consulting | 2,325 | 4.6 | 1,585 | 3.4 | 3,835 | 3.9 | 2,986 | 3.2 | ||||||||||||||||||||||||
Travel and related | 1,072 | 2.1 | 725 | 1.6 | 1,913 | 2.0 | 1,318 | 1.4 | ||||||||||||||||||||||||
Allocated facilities | 959 | 1.9 | 1,099 | 2.4 | 2,014 | 2.1 | 2,127 | 2.3 |
In the three months ended June 30, 2013, the $1.4 million increase in Compensation and related costs and $0.2 million increase in variable compensation were primarily due to headcount and salary increases. In the six months ended June 30, 2013, the $2.6 million increase in Compensation and related costs and $0.6 million increase in variable compensation were primarily due to headcount and salary increases. The $0.8 million increase in third party consulting and the $0.6 million increase in travel and related costs relate primarily to costs incurred for the delivery of services.
Member Relations and Marketing
Member relations and marketing in the three and six months ended June 30, 2013 were $15.2 million and $28.1 million, respectively. Pro forma Member relations and marketing in the three and six months ended June 30, 2012 were $10.8 million and $21.5 million, respectively. A summary of the primary components is included in the table below (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||||
2013 | % of Adjusted Revenues | Pro Forma 2012 | % of Pro Forma Revenues | 2013 | % of Adjusted Revenues | Pro Forma 2012 | % of Pro Forma Revenues | |||||||||||||||||||||||||
Compensation and related | $ | 9,349 | 18.4 | % | $ | 6,727 | 14.4 | % | $ | 18,036 | 18.5 | % | $ | 13,363 | 14.5 | % | ||||||||||||||||
Variable compensation | 1,787 | 3.5 | 1,339 | 2.9 | 3,312 | 3.4 | 2,735 | 3.0 | ||||||||||||||||||||||||
Travel and related | 884 | 1.7 | 491 | 1.1 | 1,455 | 1.5 | 931 | 1.0 | ||||||||||||||||||||||||
Allocated facilities | 653 | 1.3 | 557 | 1.2 | 1,241 | 1.3 | 1,065 | 1.2 |
In the three months ended June 30, 2013, the $2.6 million increase in Compensation and related costs is primarily due to headcount increases. The $0.5 million increase in variable compensation is primarily driven by an increase in sales bookings. In the six months ended June 30, 2013, the $4.6 million increase in Compensation and related costs is primarily due to headcount increases. The $0.6 million increase in variable compensation is primarily driven by an increase in sales bookings.
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General and Administrative
General and administrative in the three and six months ended June 30, 2013 were $7.9 million and $15.7 million, respectively. Pro forma General and administrative in the three and six months ended June 30, 2012 were $7.3 million and $14.1 million, respectively. A summary of the primary components is included in the table below (in thousands):
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||||||||||||||||||
2013 | % of Adjusted Revenues | Pro Forma 2012 | % of Pro Forma Revenues | 2013 | % of Adjusted Revenues | Pro Forma 2012 | % of Pro Forma Revenues | |||||||||||||||||||||||||
Compensation and related | $ | 3,831 | 7.6 | % | $ | 3,259 | 7.0 | % | $ | 7,176 | 7.4 | % | $ | 6,545 | 7.1 | % | ||||||||||||||||
Variable compensation | 1,622 | 3.2 | 882 | 1.9 | 3,225 | 3.3 | 1,739 | 1.9 |
In the three months ended June 30, 2013, the $0.5 million increase in Compensation and related costs and $0.7 million increase in variable compensation were primarily due to headcount and salary increases. In the six months ended June 30, 2013, the $0.7 million increase in Compensation and related costs and $1.5 million increase in variable compensation were primarily due to headcount and salary increases.
Acquisition Related Costs
Acquisition related costs were $0.8 million and $1.0 million in the three and six months ended June 30, 2013, respectively. Acquisition costs relate to the integration of SHL.
Depreciation and Amortization
Depreciation and amortization in the three and six months ended June 30, 2013 was $7.7 million and $15.2 million, respectively. Of these amounts, $6.2 million and $12.4 million related to the amortization of intangible assets resulting from our acquisition of SHL, respectively. The remaining amounts related to the depreciation of property and equipment.
Liquidity and Capital Resources
Historically, cash flows generated from operating activities have been our primary source of liquidity. On July 2, 2012, in connection with the execution of the sale and purchase agreement related to the SHL acquisition, we entered into a senior secured credit agreement, which was amended and restated on July 18, 2012, and again on August 1, 2012 (as amended and restated, the “Senior Secured Credit Agreement”). The Senior Secured Credit Agreement provides for (i) a term loan A in an aggregate principal amount of $275 million (the “Term Loan A Facility”), (ii) a term loan B in an aggregate principal amount of $250 million (the “Term Loan B Facility” and together with the Term Loan A Facility, the “Term Facilities”) and (iii) a $100 million revolving credit facility (the “Revolving Credit Facility” and together with the Term Loan A Facility and the Term Loan B Facility, the “Senior Secured Credit Facilities”).
On August 2, 2012, in connection with the closing of the SHL acquisition, the full amounts of the Term Loan A Facility and the Term Loan B Facility were drawn and $30 million under the Revolving Credit Facility was drawn. In addition, approximately $6 million of availability under the Revolving Credit Facility was used to cover letters of credit that were issued to replace similar letters of credit previously issued under the our prior senior unsecured credit facility which was terminated concurrently with the drawings under the Senior Secured Credit Facilities. In addition to the net proceeds from the Senior Secured Credit Facilities, we used approximately $121 million of our available cash on hand to pay the remainder of the SHL purchase price. We repaid $10 million of the principal amount outstanding under the Revolving Credit Facility in December 2012 and the remaining outstanding amount of $20 million in January 2013. We were in compliance with all of the Senior Secured Credit Facilities covenants at June 30, 2013.
On August 2, 2013, we entered into Amendment No. 3 (the “Amendment”) to the Credit Agreement. The Amendment (i) replaced the existing term A loans with new refinancing term A-1 loans (the “Refinancing Term A-1 Loans”) in an aggregate principal amount of $269.6 million, which was fully drawn on August 2, 2013, (ii) established a new tranche of incremental term A-1 loans (the “Incremental Term A-1 Loans” and together with the Refinancing Term A-1 Loans, the “Term A-1 Loans”) in an aggregate principal amount of $253.8 million, which was fully drawn on August 2, 2013, and (iii) increased the existing revolving commitments with new tranche A revolving commitments (the “Tranche A Revolving Commitments” and the loans thereunder, the “Tranche A Revolving Loans”) in an aggregate principal amount of $100 million for a total aggregate principal amount of $200 million, none of which was drawn in connection with the closing of the Amendment.
Amounts drawn under the Refinancing Term A-1 Loan tranche were used to prepay and terminate our existing Term Loan A Facility. Amounts drawn under the Incremental Term A-1 Loan tranche were used to prepay and terminate our existing Term Loan B Facility and pay transaction related fees and expenses. Amounts drawn under the new Tranche A Revolving Commitments are expected to be used for general corporate purposes.
The maturity date of all Term A-1 Loans is August 2, 2018. The principal amount of the Term A-1 Loans amortizes in quarterly installments equal to (i) for the first two years after the closing of the Amendment, approximately 2% of the original principal amount of the Term A-1 Loans and (ii) for the next three years thereafter, approximately 4% of the original principal amount of the Term A-1 Loans, with the balance payable at maturity. The termination date of all revolving commitments under the credit agreement, including the new Tranche A Revolving Commitments, is August 2, 2018. As of the closing, the Term A-1 Loans and Tranche A Revolving Loans will, at the option of the Company, bear interest at the Eurodollar Rate plus 2.25% or ABR plus 1.25%, as applicable, with future “step-downs” upon achievement of specified first lien net leverage ratios.
In February 2012, we completed the acquisition of Valtera. We acquired 100% of the equity interests of Valtera for a cash payment of $22.4 million less cash acquired of $1.9 million. The cash payment includes $4.7 million which was placed in escrow and held until March 13, 2013 at which point the funds were released to the sellers.
We had cash and cash equivalents of $81.6 million and $72.7 million at June 30, 2013 and December 31, 2012, respectively. We believe that existing cash and cash equivalents and operating cash flows will be sufficient to support operations, including interest and required principal payments, anticipated capital expenditures, and the payment of dividends, as well as potential share repurchases for at least the next 12 months. Our future cash flows will depend on many factors, including our rate of Contract Value growth and selective investments to expand our market presence and enhance technology. At June 30, 2013, available borrowings under the Revolving Credit Facility were approximately $93 million, which includes approximately $7 million reserved for outstanding letters of credit. The anticipated cash needs of our business could change significantly if we pursue and make investments in, or acquisitions of, complementary businesses, if economic conditions change from those currently prevailing or from those currently anticipated, or if other unexpected circumstances arise that may have a material effect on the cash flows or profitability of our business. Any of these events or circumstances could involve significant additional funding needs in excess of the identified currently available sources, including our Revolving Credit Facility, and could require us to seek additional financing as an additional source of liquidity to meet those needs. Our ability to obtain additional financing, if necessary, is subject to a variety of factors that we cannot predict with certainty, including our future profitability; our relative levels of debt and equity; the volatility and overall condition of the capital markets; and the market prices of our securities. As a result, any additional financing may not be available on acceptable terms or at all.
Approximately $34 million of our cash is held by our foreign subsidiaries. We manage our worldwide cash requirements by considering available funds among the many subsidiaries through which we conduct our business and the cost effectiveness with which those funds can be accessed. The repatriation of cash balances from certain of our subsidiaries could have adverse tax consequences; however, those balances are generally available without legal restrictions to fund ordinary business operations, capital projects, and future acquisitions.
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Cash Flows
Six Months Ended June 30, | ||||||||
2013 | 2012 | |||||||
Net cash flows provided by operating activities | $ | 77,662 | $ | 83,511 | ||||
Net cash flows used in investing activities | (21,684 | ) | (25,943 | ) | ||||
Net cash flows used in financing activities | (45,389 | ) | (12,192 | ) |
Historically, our primary uses of cash have been to fund acquisitions, capital expenditures, share repurchases, and dividend payments. With the Senior Secured Credit Facilities, our primary uses of cash also includes debt service requirements.
Cash Flows from Operating Activities
Membership subscriptions, which principally are annually renewable agreements, generally are payable by members at the beginning of the contract term. Historically, the combination of revenue growth, profitable operations, and advance payments of membership subscriptions has resulted in net cash flows provided by operating activities. Net cash flows provided by operating activities were $77.7 million and $83.5 million in the six months ended June 30, 2013 and 2012, respectively. The primary drivers of the year over year decrease were an increase in cash tax payments, incentive payments for sales commissions and annual bonuses, and interest expense. The increase in outflows is partially offset by the inclusion of SHL cash flows in the six months ended June 30, 2013.
We made income tax payments of $26.4 million and $11.4 million in the six months ended June 30, 2013 and 2012, respectively and expect to continue making tax payments in future periods. The increase in income tax payments was primarily due to tax deductions associated with the disposal of Toolbox.com.
Cash Flows from Investing Activities
Our cash management, acquisition, and capital expenditure strategies affect cash flows from investing activities. Net cash flows used in investing activities were $21.7 million and $25.9 million in the six months ended June 30, 2013 and 2012, respectively. In 2013, we used $14.4 million for capital expenditures, primarily on the SHL integration and technology infrastructure. We also made a strategic investment of $7.3 million. In 2012, we utilized $21.0 million for acquisitions of businesses, primarily related to Valtera, which included a payment of $20.5 million, which is net of cash acquired totaling $1.9 million.
We estimate that capital expenditures to support our infrastructure will be between $29 million and $31 million in 2013. This does not include approximately $7 million for tenant improvement allowances that are paid by the landlord directly to contractors and will not impact our cash flows.
Cash Flows from Financing Activities
Net cash flows used in financing activities were $45.4 million and $12.2 million in the six months ended June 30, 2013 and 2012, respectively. The primary use of cash in 2013 was $26.6 million used to repay amounts outstanding under our Senior Secured Credit Facilities. Additionally, we increased our quarterly dividend rate from $0.175 per share in 2012 to $0.225 per share in 2013. This resulted in a $3.4 million increase in dividend payments. We also used $2.8 million in the six months ended June 30, 2013 to repurchase shares of our common stock pursuant to our stock repurchase program that was approved by the Board of Directors in February 2013.
Commitments and Contingencies
We continue to evaluate potential tax exposure relating to sales and use, payroll, income and property tax laws, and regulations for various states in which we sell or support our goods and services. Accruals for potential contingencies are recorded when it is probable that a liability has been incurred, and the liability can be reasonably estimated. As additional information becomes available, changes in the estimates of the liability are reported in the period that those changes occur. We had a liability of $5.8 million at June 30, 2013 and December 31, 2012, respectively, relating to certain sales and use tax regulations for states in which we sell or support our goods and services.
Contractual Obligations
The following table summarizes our known contractual obligations at June 30, 2013 and the effect such obligations are expected to have on our liquidity and cash flows in future periods (in thousands):
Payments Due by Period at June 30, 2013 | ||||||||||||||||||||||||||||
Total | YE 2013(1) | YE 2014 | YE 2015 | YE 2016 | YE 2017 | Thereafter | ||||||||||||||||||||||
Senior Secured Credit Facilities (2) | $ | 586,578 | $ | 10,941 | $ | 24,014 | $ | 28,736 | $ | 33,310 | $ | 32,769 | $ | 456,808 | ||||||||||||||
Operating lease obligations | 623,127 | 22,684 | 49,033 | 48,927 | 49,128 | 46,960 | 406,395 | |||||||||||||||||||||
Deferred compensation liability | 14,947 | — | 675 | 496 | 546 | 257 | 12,973 | |||||||||||||||||||||
Purchase commitments | 44,978 | 24,545 | 11,377 | 7,635 | 1,421 | — | — | |||||||||||||||||||||
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Total | $ | 1,269,630 | $ | 58,170 | $ | 85,099 | $ | 85,794 | $ | 84,405 | $ | 79,986 | $ | 876,176 | ||||||||||||||
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Sublease Receipts by Period (In Thousands) at June 30, 2013 | ||||||||||||||||||||||||||||
Total | YE 2013(1) | YE 2014 | YE 2015 | YE 2016 | YE 2017 | Thereafter | ||||||||||||||||||||||
Sublease receipts | $ | 269,914 | $ | 7,281 | $ | 17,548 | $ | 19,140 | $ | 19,600 | $ | 20,073 | $ | 186,272 |
(1) | For the six months ended December 31, 2013. |
(2) | Includes interest expense for the Term A-1 Loans calculated using variable interest rates at August 2, 2013 of 2.44%. We may be required to make mandatory prepayments with the net cash proceeds of certain debt issuances, equity issuances, insurance receipts, dispositions and excess cash flows. The amounts presented in the tables above do not reflect any mandatory prepayments that we may be required to pay. |
Operating lease obligations include scheduled rent escalations. Purchase commitments primarily relate to information technology and infrastructure contracts.
Not included in the table above are unrecognized tax benefits of $5.1 million.
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Off-Balance Sheet Arrangements
At June 30, 2013 and December 31, 2012, we had no off-balance sheet financing or other arrangements with unconsolidated entities or financial partnerships (such as entities often referred to as structured finance or special purpose entities) established for purposes of facilitating off-balance sheet financing or other debt arrangements or for other contractually narrow or limited purposes.
Forward-looking Statements
This Quarterly Report on Form 10-Q, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 2, contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 that involve risks, uncertainties and assumptions. In addition, all statements other than statements of historical fact are statements that could be deemed forward-looking statements, including but not limited to any projections of revenues, margins, expenses, provision for income taxes, earnings, cash flows, share repurchases, acquisition synergies, foreign currency exchange rates or other financial items; any statements of the plans, strategies and objectives of management for future operations; any statements concerning expected development, performance or market share relating to products or services; any statements regarding future economic conditions or performance; any statements regarding pending investigations, claims or disputes; any statements of expectation or belief; any statements regarding the impact of the SHL acquisition and related debt financing on our future business, financial results or financial condition, including our liquidity and capital resources; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. You are hereby cautioned that these statements are based upon our expectations at the time we make them and may be affected by important factors including, among others, the factors set forth below and in our filings with the US Securities and Exchange Commission, and consequently, actual operations and results may differ materially from the results discussed in the forward-looking statements. Our expectations, beliefs and projections are expressed in good faith and we believe there is a reasonable basis for them.
Factors that could cause actual results to differ materially from those indicated by forward-looking statements include, among others, our dependence on renewals of our membership-based services; the sale of additional programs to existing members and our ability to attract new members; our potential failure to adapt to changing member needs and demands; our potential failure to develop and sell, or expand sales markets for our SHL tools and services; our potential inability to attract and retain a significant number of highly skilled employees or successfully manage succession planning issues; fluctuations in operating results; our potential inability to protect our intellectual property rights; our potential inability to adequately maintain and protect our information technology infrastructure and our member and client data; potential confusion about our rebranding, including our integration of the SHL brand; our potential exposure to loss of revenues resulting from our unconditional service guarantee; exposure to litigation related to our content; various factors that could affect our estimated income tax rate or our ability to utilize our deferred tax assets; changes in estimates, assumptions or revenue recognition policies used to prepare our consolidated financial statements; our potential inability to make, integrate and maintain acquisitions and investments; the amount and timing of the benefits expected from acquisitions and investments including our acquisition of SHL; our potential inability to effectively manage the risks associated with the indebtedness we incurred and the senior secured credit facilities we entered into in connection with our acquisition of SHL or any additional indebtedness we may incur in the future; our potential inability to effectively manage the risks associated with our international operations, including the risk of foreign currency exchange fluctuations; and our potential inability to effectively anticipate, plan for and respond to changing economic and financial markets conditions, especially in light of ongoing uncertainty in the worldwide economy, the US economy (including sequestration under the Budget Control Act of 2011) and possible volatility of our stock price. In Part I, “Item 1A. Risk Factors” of our 2012 Annual Report on Form 10-K, as filed with the SEC on March 1, 2013, we discuss in more detail various important factors that could cause actual results to differ from expected or historic results. It is not possible to predict or identify all such factors. Consequently, you should not consider any such list to be a complete statement of all potential risks or uncertainties. All forward-looking statements contained in this Quarterly Report on Form 10-Q are qualified by these cautionary statements and are made only as of the date this Quarterly Report on Form 10-Q is filed. We assume no obligation and do not intend to update these forward-looking statements.
Item 3. | Quantitative and Qualitative Disclosures About Market Risk. |
There has been no material change in the Company’s assessment of its sensitivity to market risk since its presentation set forth in Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” in its 2012 Annual Report on Form 10-K.
Item 4. | Controls and Procedures. |
Evaluation of Disclosure Controls and Procedures
In connection with the preparation of this Quarterly Report on Form 10-Q, our Chief Executive Officer and Chief Financial Officer, with the participation of management, have evaluated our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934, as amended (the “Exchange Act”)). Based on that evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that as of June 30, 2013, our disclosure controls and procedures were effective such that the information relating to the Company, including our consolidated subsidiaries, required to be disclosed in our Securities and Exchange Commission (“SEC”) reports (i) is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and (ii) is accumulated and communicated to the Company’s management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There have not been any changes in our internal control over financial reporting that occurred during the quarter ended June 30, 2013 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Item 1. | Legal Proceedings. |
From time to time, the Company is subject to litigation related to normal business operations. The Company vigorously defends itself in litigation. The Company is not currently a party to, and the Company’s property is not subject to, any legal proceedings likely to materially affect our financial results.
Item 1A. | Risk Factors. |
In addition to the other information contained in this Quarterly Report on Form 10-Q, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our 2012 Annual Report on Form 10-K. There were no material changes during the quarter ended June 30, 2013 to the information included in “Item 1A. Risk Factors” in our 2012 Annual Report on Form 10-K.
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Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds. |
Issuer Purchases of Equity Securities
Total Number of Shares Purchased (1) | Average Price Paid Per Share | Total Number of Shares Purchased as Part of a Publicly Announced Plan | Approximate $ Value of Shares That May Yet Be Purchased Under the Plans (2) | |||||||||||||
April 1, 2013 to April 30, 2013(1) | 47,483 | $ | 56.38 | 28,400 | $ | 48,402,658 | ||||||||||
May 1, 2013 to May 31, 2013(1) | 20,187 | $ | 58.41 | 14,900 | $ | 47,538,903 | ||||||||||
June 1, 2013 to June 30, 2013(1) | 13,469 | $ | 60.77 | 4,800 | $ | 47,250,514 | ||||||||||
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Total | 81,139 | $ | 57.61 | 48,100 | ||||||||||||
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(1) | Represents shares of common stock surrendered by employees to the Company to satisfy minimum statutory employee tax withholding obligations. |
(2) | On February 5, 2013, our Board of Directors approved a new $50 million stock repurchase program, which is authorized through December 31, 2014. Repurchases may be made through open market purchases or privately negotiated transactions. The timing of repurchases and the exact number of shares of common stock to be repurchased will be determined by our management, in its discretion, and will depend upon market conditions and other factors. The program will be funded using our cash on hand and cash generated from operations. |
Item 3. | Defaults Upon Senior Securities. |
None.
Item 4. | Mine Safety Disclosures. |
Not applicable.
Item 5. | Other Information. |
On July 26, 2013, the Board of Directors declared a third quarter cash dividend of $0.225 per share. The dividend is payable on September 30, 2013 to stockholders of record at the close of business on September 13, 2013. The Company funds its dividend payments with cash on hand and cash generated from operations.
Item 6. | Exhibits. |
(a) | Exhibits: |
Exhibit No. | Description | |
3.1 | Second Amended and Restated Certificate of Incorporation. (Incorporated by reference to Exhibit 3.1 to the Registration Statement on Form S-1, declared effective by the Securities and Exchange Commission on February 22, 1999 (Registration No. 333-5983).) | |
3.2 | Amended and Restated Bylaws. (Incorporated by reference to Exhibit 3.2 to the Current Report on Form 8-K filed with the Securities and Exchange Commission on March 10, 2009.) | |
10.1* | Amendment No. 3 to the Credit Agreement, dated as of August 2, 2013, by and among The Corporate Executive Board Company, the Lenders party thereto and Bank of America, N.A., as Administrative Agent, Collateral Agent, Swing Line Lender and L/C Issuer. | |
31.1* | Certification of the Chief Executive Officer pursuant to Rule 13a — 14(a) of the Securities Exchange Act of 1934, as amended | |
31.2* | Certification of the Chief Financial Officer pursuant to Rule 13a — 14(a) of the Securities Exchange Act of 1934, as amended | |
32.1* | Certifications pursuant to 18 U.S.C. Section 1350 | |
101.INS** | XBRL Instance Document | |
101.SCH** | XBRL Taxonomy Extension Schema Document | |
101.CAL** | XBRL Taxonomy Extension Calculation Linkbase Document | |
101.DEF** | XBRL Taxonomy Extension Definition Linkbase Document | |
101.LAB** | XBRL Taxonomy Extension Labels Linkbase Document | |
101.PRE** | XBRL Taxonomy Extension Presentation Linkbase Document |
* | Filed herewith |
** | Furnished with the Company’s Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 2013 |
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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.
THE CORPORATE EXECUTIVE BOARD COMPANY (Registrant) | ||||
Date: August 8, 2013 | By: | /s/ Richard S. Lindahl | ||
Richard S. Lindahl | ||||
Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) |
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Exhibit Index
Exhibit No. | Description | |
3.1 | Second Amended and Restated Certificate of Incorporation. (Incorporated by reference to Exhibit 3.1 to the Registration Statement on Form S-1, declared effective by the Securities and Exchange Commission on February 22, 1999 (Registration No. 333-5983).) | |
3.2 | Amended and Restated Bylaws. (Incorporated by reference to Exhibit 3.2 to the Current Report on Form 8-K filed with the Securities and Exchange Commission on March 10, 2009.) | |
10.1* | Amendment No. 3 to the Credit Agreement, dated as of August 2, 2013, by and among The Corporate Executive Board Company, the Lenders party thereto and Bank of America, N.A., as Administrative Agent, Collateral Agent, Swing Line Lender and L/C Issuer. | |
31.1* | Certification of the Chief Executive Officer pursuant to Rule 13a — 14(a) of the Securities Exchange Act of 1934, as amended | |
31.2* | Certification of the Chief Financial Officer pursuant to Rule 13a — 14(a) of the Securities Exchange Act of 1934, as amended | |
32.1* | Certifications pursuant to 18 U.S.C. Section 1350 | |
101.INS** | XBRL Instance Document | |
101.SCH** | XBRL Taxonomy Extension Schema Document | |
101.CAL** | XBRL Taxonomy Extension Calculation Linkbase Document | |
101.DEF** | XBRL Taxonomy Extension Definition Linkbase Document | |
101.LAB** | XBRL Taxonomy Extension Labels Linkbase Document | |
101.PRE** | XBRL Taxonomy Extension Presentation Linkbase Document |
* | Filed herewith |
** | Furnished with the Company’s Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 2013 |
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