NCI 10-Q 2013 Q1 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

FOR THE QUARTERLY PERIOD ENDED MARCH 31 2013

x QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTER ENDED MARCH 31, 2013

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

Commission File Number

000-51579

NCI, Inc.

(Exact name of registrant as specified in its charter)

Delaware	20-3211574
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
11730 Plaza America Drive Reston, Virginia	20190-4764
(Address of principal executive offices)	(Zip Code)

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

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    x  Yes    ¨  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 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).    x    Yes  ¨    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 definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer	¨	Accelerated filer	¨
Non-accelerated filer	¨  (Do not check if a smaller reporting company)	Smaller Reporting Company	x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    ¨  Yes    x  No

As of April 26, 2013, there were 8,232,615 shares outstanding of the registrant’s Class A common stock. In addition, there are 4,700,000 shares outstanding of the registrant’s Class B common stock, which are convertible on a one-for-one basis into shares of Class A common stock.

NCI, INC.

		PAGE
PART I: FINANCIAL INFORMATION
Item 1.	Financial Statements		1
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		8
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		13
Item 4.	Controls and Procedures		13
PART II: OTHER INFORMATION
Item 1.	Legal Proceedings		14
Item 1A.	Risk Factors		14
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		14
Item 3.	Defaults Upon Senior Securities		14
Item 4.	Mine Safety Disclosures		14
Item 5.	Other Information		14
Item 6.	Exhibits		14
	Signatures		15

PART 1

FINANCIAL INFORMATION

Item 1. Financial Statements

NCI, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(UNAUDITED)

(in thousands, except per share data)

	Three months ended March 31,
	2013		2012
Revenue	$	91,541	$	99,076
Operating expenses:
Cost of revenue		80,477		87,445
General and administrative expenses		5,861		6,744
Depreciation and amortization		1,618		1,773
Total operating expenses		87,956		95,962
Operating income		3,585		3,114
Interest expense, net		251		450
Income before income taxes		3,334		2,664
Provision for income taxes		1,359		1,079
Net income	$	1,975	$	1,585
Earnings per common and common equivalent share:
Basic:
Weighted average shares outstanding		12,812		13,577
Net income per share	$	0.15	$	0.12
Diluted:
Weighted average shares outstanding		12,812		13,630
Net income per share	$	0.15	$	0.12

The accompanying notes are an integral

part of these consolidated financial statements

1

NCI, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

(in thousands, except par value)

	As of March 31, 2013			As of December 31, 2012
Assets:
Current assets:
Cash and cash equivalents	$	861		$	763
Accounts receivable, net		79,697			62,293
Deferred tax assets, net		3,275			3,269
Income tax receivable		2,668			5,543
Prepaid expenses and other current assets		4,907			5,215
Total current assets		91,408			77,083
Property and equipment, net		11,570			12,564
Other assets		1,561			1,593
Deferred tax assets, net		43,463			43,463
Intangible assets, net		6,589			7,073
Total assets	$	154,591		$	141,776
Liabilities and stockholders’ equity:
Current liabilities:
Accounts payable	$	25,715		$	24,148
Accrued salaries and benefits		15,203			15,858
Deferred revenue		2,130			1,032
Other accrued expenses		7,747			7,625
Total current liabilities		50,795			48,663
Long-term debt		26,000			17,500
Other long-term liabilities		2,632			2,723
Total liabilities		79,427			68,886
Stockholders’ equity:
Class A common stock, $0.019 par value—37,500 shares authorized; 9,149 shares issued and 8,232 shares outstanding as of March 31, 2013, and 9,149 shares issued and 8,232 shares outstanding as of December 31, 2012		174			174
Class B common stock, $0.019 par value—12,500 shares authorized; 4,700 shares issued and outstanding as of March 31, 2013 and December 31, 2012		89			89
Additional paid-in capital		70,025			69,726
Treasury stock at cost— 917 shares of Class A common stock as of March 31, 2013 and December 31, 2012		(8,331	)		(8,331	)
Retained earnings		13,207			11,232
Total stockholders’ equity		75,164			72,890
Total liabilities and stockholders’ equity	$	154,591			141,776

The accompanying notes are an integral

part of these consolidated financial statements

2

NCI, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(in thousands)

	Three months ended March 31,
	2013			2012
Cash flows from operating activities:
Net income	$	1,975		$	1,585
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation and amortization		1,618			1,773
Loss on sale and disposal of property and equipment		—			5
Share-based payments		298			640
Deferred income taxes		(6	)		171
Changes in operating assets and liabilities:
Accounts receivable, net		(17,404	)		9,273
Prepaid expenses and other assets		3,215			(2,280	)
Accounts payable		1,567			(6,619	)
Accrued expenses		475			(3,047	)
Net cash (used in) provided by operating activities		(8,262	)		1,501
Cash flows from investing activities:
Purchases of property and equipment		(140	)		(752	)
Net cash used in investing activities		(140	)		(752	)
Cash flows from financing activities:
Borrowings under credit facility		28,558			44,369
Repayments on credit facility		(20,058	)		(47,869	)
Net cash provided by (used in) financing activities		8,500			(3,500	)
Net change in cash and cash equivalents		98			(2,751	)
Cash and cash equivalents, beginning of period		763			2,819
Cash and cash equivalents, end of period	$	861		$	68
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest	$	195		$	448
Income taxes	$	131		$	2,087

The accompanying notes are an integral

part of these consolidated financial statements

3

NCI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1. Basis of Presentation

The accompanying unaudited condensed consolidated financial statements of NCI, Inc. and its subsidiaries (“NCI” or “the Company”) have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). As a result, certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted. In the opinion of management, the accompanying unaudited interim consolidated financial statements reflect all adjustments necessary to fairly present the Company’s financial position as of March 31, 2013 and its results of operations and cash flows for the three months ended March 31, 2013 and 2012, which consists of normal and recurring adjustments. The information disclosed in the notes to the financial statements for these periods is unaudited. The current period’s results of operations are not necessarily indicative of results that may be achieved for any future period. For further information, refer to the financial statements and footnotes included in NCI’s Annual Report on Form 10-K for the year ended December 31, 2012, as filed with the SEC.All numbers presented in tables are in thousands.

2. Business Overview

NCI provides IT and professional services and solutions by leveraging its eight core service offerings: enterprise systems management; network engineering; cybersecurity and information assurance; software development and systems engineering; program management and lifecycle support; engineering and logistics; health IT and informatics; and training and simulation. The Company provides these services to U.S. Defense, Intelligence, and Federal Civilian agencies. The majority of the Company’s revenue was derived from contracts with the U.S. Federal Government, directly as a prime contractor or as a subcontractor. For the quarter ended March 31, 2013 and 2012, the Company generated approximately 76% and 77% of revenues, respectively, from the Department of Defense, including agencies within the intelligence community, and approximately 24% and 23% of revenues, respectively, from federal civilian agencies. The Company’s PEO Soldier contract is our largest revenue-generating contract and accounted for approximately 14% and 19% of our revenues for the quarters ended March 31, 2013 and 2012, respectively. The Company primarily conducts business throughout the United States. We report operating results and financial data as one reportable segment.

3. Earnings Per Share

Basic earnings per share exclude dilution and are computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflect potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. Diluted earnings per share include the incremental effect of stock options calculated using the treasury stock method. Shares that are anti-dilutive are not included in the computation of diluted earnings per share. For the three months ended March 31, 2013 and 2012, approximately 793,000 and 1,052,000 shares, respectively, were not included in the computation of diluted earnings per share, because to do so would have been anti-dilutive. The following details the computation of basic and diluted earnings per common share (Class A and Class B) for the three months ended March 31, 2013 and 2012.

	Three months ended March 31,
	2013		2012
	(in thousands, except per share data)
Net Income	$	1,975	$	1,585
Weighted average number of basic shares outstanding during the period		12,812		13,577
Dilutive effect of stock options after application of treasury stock method		—		53
Weighted average number of diluted shares outstanding during the period		12,812		13,630
Basic earnings per share	$	0.15	$	0.12
Diluted earnings per share	$	0.15	$	0.12

4

NCI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

4. Accounts Receivable

Accounts receivable consist of billed and unbilled amounts at the end of each period:

	As of
	March 31, 2013		December 31, 2012
Billed receivables	$	38,601	$	13,637
Unbilled receivables:
Amounts billable at end of period		14,596		35,938
Other		27,364		13,520
Total unbilled receivables		41,960		49,458
Total accounts receivable		80,562		63,095
Less: Allowance for doubtful accounts		865		802
Total accounts receivable, net	$	79,697	$	62,293

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

5. Property and Equipment

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

	As of
	March 31, 2013		December 31, 2012
Property and equipment
Furniture and equipment	$	22,217	$	22,092
Leasehold improvements		7,712		7,697
Real property		549		549
		30,478		30,338
Less: Accumulated depreciation and amortization		18,909		17,774
Property and equipment, net	$	11,569	$	12,564

Depreciation expense for the three months ended March 31, 2013 and 2012 was $1.1 million and $1.2 million, respectively.

6. Intangible Assets

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

	As of
	March 31, 2013		December 31, 2012
Contract and customer relationships	$	20,558	$	20,558
Less: Accumulated amortization		13,982		13,510
		6,576		7,048
Non-compete agreements		2,038		2,038
Less: Accumulated amortization		2,024		2,013
		14		25
Intangible assets, net	$	6,590	$	7,073

5

NCI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

6. Intangible Assets – continued

Amortization expense of intangible assets for the quarters ended March 31, 2013 and 2012 was $0.5 million and $0.6 million, respectively.

7. Share-Based Payments

During the first three months of 2013, the Company granted zero stock options and had no exercises of stock options. As of March 31, 2013, there were approximately 651,000 stock options outstanding.

During the first three months of 2013, the Company granted zero shares of restricted stock, and 6,750 restricted shares vested. As of March 31, 2013, there were approximately 116,000 shares of restricted stock outstanding.

The following table summarizes stock compensation for the three months ended March 31, 2013 and 2012:

	For the Three Months Ended March 31,
	2013		2012
	(in thousands)
Cost of revenue	$	57	$	181
General and administrative		240		459
	$	297	$	640

As of March 31, 2013, there was approximately $2.5 million of total unrecognized compensation cost related to unvested stock compensation arrangements. This cost is expected to be fully amortized over the next four years, with approximately $0.8 million, $1.0 million, $0.6 million, and $0.1 million amortized during 2013, 2014, 2015, and 2016 respectively. The cost of stock compensation is included in the Company’s Consolidated Statements of Income before, or in conjunction with, the vesting of options.

8. Debt

The Company’s senior credit facility, as amended in December 2010 and subsequently amended in December 2012, is a revolving line of credit with a borrowing capacity of up to an $80.0 million principal amount. The credit facility also has a $45.0 million accordion feature allowing the Company to increase our borrowing capacity to up to a $125.0 million principal amount, subject to obtaining commitments for the incremental capacity from existing or new lenders. The outstanding borrowings are collateralized by a security interest in substantially all the Company’s assets. The lenders also require a direct assignment of all contracts at the lenders’ discretion. The outstanding balance under the credit facility accrues interest based on one-month LIBOR plus an applicable margin, ranging from 225 to 325 basis points, based on the ratio of the Company’s outstanding senior funded debt to Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA) as defined in the credit facility agreement. Through June 30, 2013, the amended credit facility agreement provides for a minimum margin floor of 250 basis points. The credit facility expires on December 13, 2014.

The credit facility contains various restrictive covenants that, among other things, restrict the Company’s ability to: incur or guarantee additional debt; make certain distributions, investments and other restricted payments, including limits on cash dividends on the Company’s outstanding common stock; enter into transactions with certain affiliates; create or permit certain liens; and consolidate, merge, or sell assets. In addition, the credit facility contains certain financial covenants that require the Company to: maintain a minimum tangible net worth; a minimum fixed charge coverage ratio and a minimum funded debt to earnings ratio; and limit capital expenditures below certain thresholds.

6

NCI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

8. Debt – continued

The credit facility allows the Company to use borrowings thereunder of up to $17.5 million to repurchase shares of the Company’s common stock. During the first quarter of 2013, NCI did not repurchase any of the Company’s Class A common stock. At March 31, 2013, $16.7 million was remaining under the Board of Directors’ authorization for shares repurchases. As of March 31, 2013 and December 31, 2012, the Company was in compliance with all of its loan covenants.

During the first quarter of 2013, NCI had a weighted average outstanding loan balance of $21.2 million which accrued interest at a weighted average borrowing rate of 2.7%. During the first quarter of 2012, NCI had a weighted average outstanding loan balance of $56.4 million which accrued interest at a weighted average borrowing rate of 2.5%.

As of March 31, 2013, the outstanding balance under the credit facility was $26.0 million and interest accrued at a rate of LIBOR plus 250 basis points, or 2.7%. As of December 31, 2012, the outstanding balance under the credit facility was $17.5 million and interest accrued at a rate of one-month LIBOR plus 250 basis points, or 2.7%.

9. Restructuring Charge

During December 2011, management committed to, implemented, and completed a restructuring plan. The restructuring was done to reduce costs through downsizing our existing work force and physical locations.

The activity and balance of the restructuring liability accounts for the quarter ended March 31, 2013 are as follows:

	Severance and Related Costs			Lease and Facilities Exit Costs			Total
Balance as of January 1, 2012	$	364		$	2,577		$	2,941
Adjustments		—			(4	)		(4	)
Cash payments		(364	)		(1,000	)		(1,364	)
Balance as of December 31, 2012		—			1,573			1,573
Adjustments		—			—			—
Cash payments		—			(188	)		(188	)
Balance as of March 31, 2013	$	—		$	1,385		$	1,385
Amounts contained in balance sheet as of March 31, 2013
Other accrued expenses		—			523			523
Other long-term liabilities		—			862			862
Total	$	—		$	1,385		$	1,385

The accrued amounts related to the lease and facilities exit costs will be reduced over the respective lease terms, the longest of which extends through 2017.

10 Related Party Transactions

The Company purchased services under a subcontract from Net Commerce Corporation, which is a Government contractor wholly-owned by Rajiv Narang, the son of Charles K. Narang, the Chairman and Chief Executive Officer of the Company. For the three months ended March 31, 2013 and 2012, the expense incurred under this agreement was approximately $241,000 and $214,000 respectively. As of March 31, 2013 and December 31, 2012, there were outstanding amounts due to Net Commerce Corporation of approximately $157,000 and $72,000, respectively.

The Company believes this agreement was at a market rate as of the date thereof.

7

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

Forward-Looking Statements

This Quarterly Report on Form 10-Q, including the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding our business, financial condition, results of operations, and prospects. There are statements made herein, which may not address historical facts and, therefore, could be interpreted to be forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995. Such statements are subject to factors that could cause actual results to differ materially from anticipated results. The factors that could cause actual results to differ materially from those anticipated include, but are not limited to, the following:

• Our dependence on our contracts with U.S. Federal Government agencies, particularly within the U.S. Department of Defense, for the majority our revenue; a change in funding of our contracts due to bid protests; changes in U.S. Federal Government spending priorities; changes in contract type, particularly changes from cost-plus fee or time-and-material type contracts to firm fixed-price type contracts

• A reduction in the overall U.S. Defense budget, volatility in spending authorizations for Defense and Intelligence-related programs by the U.S. Federal Government or a shift in spending to programs in areas where we do not currently provide services

• Delays in the U.S. Federal Government appropriations process, or budgetary cuts resulting from Congressional committee recommendations or automatic sequestration under the Budget Control Act of 2011, and U.S. Federal Governmental shutdowns (such as the shutdown that occurred during the U.S. Federal Government’s 1996 fiscal year)

• Changes in U.S. Federal Government programs or requirements, including the increased use of small business providers

• Failure to achieve contract awards in connection with recompetes for present business and/or competition for new business

• U.S. Federal Government agencies more frequently awarding contracts on a technically acceptable/lowest cost basis in order to reduce expenditures

• Adverse results of U.S. Federal Government audits of our government contracts

• Competitive factors, such as pricing pressures and competition to hire and retain employees (particularly those with security clearances)

• Failure to identify and successfully integrate future acquired companies or businesses into our operations or to realize any accretive or synergistic effects from such acquisitions, or effectively integrate acquisitions appropriate to the achievement of our strategic plans

• Economic conditions in the United States, including conditions that result from terrorist activities or war

• Material changes in policies, laws, or regulations applicable to our businesses, particularly legislation affecting (i) U.S. Federal Government contracts for services, (ii) outsourcing of activities that have been performed by the U.S. Federal Government, (iii) U.S. Federal Government contracts containing organizational conflict of interest clauses, (iv) delays related to agency specific funding freezes, and (v) competition for task orders under Government Wide Acquisition Contracts, agency-specific Indefinite Delivery/Indefinite Quantity contracts and/or schedule contracts with the General Services Administration

• U.S. Federal Government’s “insourcing” of previously contracted support services and the realignment of funds to non-defense related programs

• Our ability to achieve the objectives of near-term or long-range business plans, particularly revenue growth, and the ability to realize future deferred tax assets benefits

• Risk of contract non-performance or termination

Some of these important factors are outlined under Item 1A. Risk Factors and elsewhere in our Annual Report on Form 10-K for the year ended December 31, 2012 filed with the SEC, and from time to time in other filings with the SEC, such as our Forms 8-K and 10-Q. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee our future results, level of activity, or performance. We undertake no obligation to update publicly or revise any forward-looking statements. You should not place undue reliance on any forward-looking statements.

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

8

OVERVIEW

NCI is a worldwide provider of leading-edge enterprise services and solutions to Defense, Intelligence, Healthcare, and Civilian Government agencies. Inspired by our customers’ missions and driven by their challenges, we focus on helping our customers achieve higher levels of performance by utilizing cutting-edge technologies and methodologies in the following capability areas:

• Cloud Computing and Data Center Consolidation

• Cybersecurity and Information Assurance

• Engineering and Logistics Support

• Enterprise Information Management and Advanced Analytics

• Health IT and Medical Support

• IT Service Management

• Software and Systems Development/Integration

• Modeling, Simulation, and Training

Our team of highly skilled professionals is committed to service excellence and delivers innovative, cost-effective enterprise services and solutions on time and within budget. We are focused on reshaping the way services and solutions are delivered to our customers in order to proactively understand and meet their mission needs and enable them to rapidly adapt to dynamic environments. Headquartered in Reston, Virginia, NCI currently operates in more than 100 locations around the globe. We report operating results and financial data as one reportable segment. We are a trusted partner when and where you need us most.

Key Financial Metrics

Prime Contractor Revenue

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

	Three months ended March 31,
	2013			2012
Revenue derived from prime contracts		90	%		87	%

Customer Group Revenue

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

	Three months ended March 31,
	2013			2012
Department of Defense and intelligence agencies		76	%		77	%
U.S. Federal civilian agencies		24	%		23	%

Contract Type Revenue

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

9

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

	Three months ended March 31,
	2013			2012
Time-and-materials		21	%		26	%
Cost-plus fee		51	%		50	%
Firm fixed-price		28	%		24	%

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

Contract Backlog

As of	Funded backlog		Total backlog
	(in millions)
March 31, 2013	$	163	$	622
December 31, 2012		212		706

We define backlog as our estimate of the remaining future revenue from existing signed contracts over the remaining base contract performance period and from the option periods of those contracts that we believe have a more likely than not probability of being exercised. Our backlog does not include any estimate of future potential delivery orders that might be awarded under our GWAC, agency-specific IDIQ, or other multiple-award contract vehicles. We define funded backlog as the portion of backlog for which funding currently is appropriated and obligated to us under a contract or other authorization for payment signed by an authorized purchasing agency, less the amount of revenue we have previously recognized. Our funded backlog does not represent the full potential value of our contracts, as Congress often appropriates funds for a particular program or agency on a quarterly or yearly basis, even though the contract may provide for the provision of services over a number of years. We define unfunded backlog as the total backlog less the funded backlog. Unfunded backlog includes values for contract options that have been priced but not yet funded. Additional information on how we determine backlog is included in our Annual Report on Form 10-K for the year ended December 31, 2012, filed with the SEC.

10

Results of Operations

Three Months Ended March 31, 2013 Compared to Three Months Ended March 31, 2012

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

	Three months ended March 31,
	2013		2012		2013			2012
	(in thousands)				(as a percentage of revenue)
Revenue	$	91,541	$	99,076		100.0	%		100.0	%
Operating expenses:
Cost of revenue		80,477		87,445		87.9			88.3
General and administrative expenses		5,861		6,744		6.4			6.8
Depreciation and amortization		1,618		1,773		1.8			1.8
Total operating expenses		87,956		95,962		96.1			96.9
Operating income		3,585		3,114		3.9			3.1
Interest expense, net		251		450		0.3			0.4
Income before income taxes		3,334		2,664		3.7			2.7
Provision for income taxes		1,359		1,079		1.4			1.1
Net income	$	1,975	$	1,585		2.2	%		1.6	%

Revenue

For the three months ended March 31, 2013, revenue decreased by 7.6%, or $7.5 million, over the same period a year ago. The decrease was primarily due to approximately $5.8 million of lower revenue attributable to services provided on our PEO Soldier contract.

During the first quarter of 2013, our PEO Soldier contract accounted for 13.7%, or approximately $12.5 million of our revenue. During the first quarter of 2012, our PEO Soldier contract accounted for 18.6%, or $18.4 million, of our revenue.

Cost of revenue

Cost of revenue decreased 8.0%, or $7.0 million, for the three months ended March 31, 2013, as compared to the same period a year ago. This decrease was primarily the result of reduced costs in support of our PEO Soldier contract. Cost of revenue represented 87.9% of revenue for the quarter ended March 31, 2013, as compared to 88.3% for the quarter ended March 31, 2012 This decrease was primarily the result of improved margins on certain time-and-material contracts and the receipt of award fees on certain cost-plus fee contracts.

General and administrative expenses

General and administrative expense decreased 13.1%, or $0.9 million, for the three months ended March 31, 2013, as compared to the same period a year ago. The decrease was primarily due to lower stock compensation costs, lower fees for outside consultants, and reduced facilities costs, among other factors.

Depreciation and amortization

Depreciation and amortization expense was approximately $1.6 million and $1.8 million for the quarters ended March 31, 2013 and 2012, respectively. The decrease was primarily due to the reduction in the amortization expense of intangible assets.

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Interest expense, net

Net interest expense was $0.3 million and $0.5 million for the quarters ended March 31, 2013 and 2012, respectively. This decrease was primarily due to a lower average loan balance in the quarter ended March 31, 2013. During the first quarter of 2013, we had a weighted average outstanding loan balance of $21.2 million which accrued interest at a weighted average borrowing rate of 2.7%. During the first quarter of 2012, we had a weighted average outstanding loan balance of $56.4 million which accrued interest at a weighted average borrowing rate of 2.5%.

Income taxes

Income tax expense increased by $0.3 million in the three months ended March 31, 2013, as compared to the three months ended March 31, 2012. This increase was due to the increase in operating income, and an increase in our effective tax rate. The effective income tax rate for the quarter ended March 31, 2013 was approximately 40.8%, as compared to an effective income tax rate of 40.5% for the quarter ended March 31, 2012. The increase in effective tax rate was due to a change in state tax apportionments.

Liquidity and Capital Resources

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

During the first quarter of 2013, the balance of accounts receivable increased by $17.2 million to $79.5 million at the end of the quarter, as compared to December 31,2012. Days sales outstanding of accounts receivable (DSO) increased to 78 days as of March 31, 2013, up 14 days from the 64 days reported as of December 31, 2012. The increase in DSO is primarily associated with delays in receipts of payments on several large contracts.

Our Board of Directors authorized management to repurchase up to $25.0 million of our Class A common stock pursuant to a stock repurchase program in 2010. The December 2012 amendment to the credit facility authorized repurchases of up to $17.5 million of our Class A common stock. If shares are repurchased, the shares will be repurchased pursuant to open market purchases, privately negotiated transactions, or block transactions. We have no obligation to repurchase shares under the authorization, and the timing, actual number and value of the shares which are repurchased (and the manner of any such repurchase) will be at the discretion of management and will depend on a number of factors, including the price of our common stock, an increase in the Company’s cash needs, a decrease in the Company’s available cash, borrowing capacity under our credit facility, interest rates, and the Company’s financial performance and position. We may suspend or discontinue repurchases at any time. During the first quarter of 2013, we purchased zero shares of our Class A common stock. At March 31, 2013, $16.7 million was remaining under the Board of Director’s authorization for shares repurchases.

Credit Facility: Our senior credit facility consists of a revolving line of credit with a borrowing capacity of up to a $80.0 million principal amount. The credit facility also has a $45.0 million accordion feature allowing us to increase our borrowing capacity to up to a $125.0 million principal amount, subject to obtaining commitments for the incremental capacity from existing or new lenders. The outstanding balance under the credit facility accrues interest based on one-month LIBOR plus an applicable margin (spread), ranging from 225 to 325 basis points, based on the amount of our outstanding senior debt to Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA) as defined in the credit facility agreement. Through June 30, 2013, the amended credit facility agreement provides for a minimum margin floor of 250 basis points. The accrued interest is due and payable monthly. The outstanding borrowings are collateralized by a security interest in substantially all the Company’s assets. The lenders also require a direct assignment of all contracts at the lenders’ discretion. The credit facility expires on December 13, 2014. We do not currently hedge our interest rate risk. The credit facility allows us to use borrowings thereunder of up to $17.5 million to repurchase shares of our common stock.

Funds borrowed under the credit facility will be used to finance possible future acquisitions, for working capital expenditures, for stock repurchases, and for general corporate uses. As of March 31, 2013, there was $26.0 million due under the credit facility, which reflects $8.5 million of net borrowings during 2013. The increase in net borrowings is associated with delays in receipts of payment on several large contracts.

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The loan interest accrual rate is set monthly at one-month LIBOR plus a set amount (spread) per the credit facility, amended in December 2012.

The credit facility contains various restrictive covenants that, among other things, restrict the Company’s ability to: incur or guarantee additional debt; make certain distributions, investments and other restricted payments, including cash dividends on the Company’s outstanding common stock; enter into transactions with certain affiliates; create or permit certain liens; and consolidate, merge, or sell assets. In addition, the credit facility contains certain financial covenants that require the Company to: maintain a minimum tangible net worth; maintain a minimum fixed charge coverage ratio and a minimum funded debt to earnings ratio; and limit capital expenditures below certain thresholds.

As of March 31, 2013, we were in compliance with all our loan covenants.

Off-Balance Sheet Arrangements

We do not have any material off-balance sheet arrangements.

Critical Accounting Policies

There have been no significant changes to our Critical Accounting Policies during the first quarter of 2013. Refer to our Critical Accounting Policies section in our Annual Report on Form 10-K for the year ended December 31, 2012 filed with the SEC.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Our exposure to market risk relates to changes in interest rates for borrowings under our credit facility. For the quarter ended March 31, 2013, a change of 1% in interest rates would have changed our interest expense or cash flows by less than $0.1 million. This estimate is based on our average balances for the period.

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

Item 4. Controls and Procedures

Evaluation of the Effectiveness of Disclosure Controls and Procedures

As of March 31, 2013, under the supervision and with the participation of our management, including our chief executive officer and our chief financial officer, we have evaluated the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934, as amended. Based on this evaluation, our chief executive officer and our chief financial officer have concluded that our disclosure controls and procedures were effective, as of March 31, 2013, such that the information that is required to be disclosed in our reports filed with the SEC (i) is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and (ii) is accumulated and communicated to management, including our chief executive officer and our chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

The Company made no change to its internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) identified in connection with the evaluation required by Rule 13a-15(d) under the Exchange Act during the three months ended March 31, 2013 that has materially affected, or is reasonably likely to materially affect, its internal control over financial reporting.

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PART II

OTHER INFORMATION

Item 1. Legal Proceedings

The Company is party to various legal actions, claims, government inquiries, and audits resulting from the normal course of business. The Company believes that the probability is remote that any resulting liability will have a material effect on the Company’s financial position, results of operations, or cash flows.

Item 1A. Risk Factors

There have been no significant changes from those discussed in Item 1A. “Risk Factors” included in the Company’s Annual Report on Form 10-K for the year ended December  31, 2012 filed with the SEC.

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

None

Item 3. Defaults Upon Senior Securities

None

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

None

Item 6. Exhibits

Number	Description
2.1	Stock Purchase Agreement among NCI Information Systems, Inc. (“NCIIS”), a wholly owned subsidiary of NCI, and stockholders of AdvanceMed Corporation dated as of February 24, 2011 (incorporated herein by reference from Exhibit 2.1 to registrant’s Current Report on Form 8-K, as filed with the Commission on April 4, 2011)
3.1	Amended and Restated Certificate of Incorporation of the Registrant (incorporated herein by reference from Exhibit 3.1 to registrant’s Registration Statement on Form S-1 (File No. 333-127006), as filed with the Commission on October 4, 2005, as amended).
3.2	Bylaws of the Registrant (incorporated herein by reference from Exhibit 3.2 to registrant’s Registration Statement on Form S-1 (File No. 333-127006), as filed with the Commission on July 29, 2005).
4.1	Specimen Class A Common Stock Certificate (incorporated herein by reference from Exhibit 4.1 to registrant’s Registration Statement on Form S-1 (File No. 333-127006), as filed with the Commission on October 20, 2005, as amended).
4.2*	NCI, Inc. Amended and Restated 2005 Performance Incentive Plan (incorporated herein by reference from Appendix A to registrant’s Definitive Proxy Statement on Schedule 14A, as filed with the Commission on April 30, 2009).
4.3*	Form of Amended and Restated 2005 Performance Incentive Plan Notice of Stock Option Grant and Stock Option Agreement (incorporated herein by reference from Exhibit 4.2 to registrant’s Current Report on Form 8-K, as filed with the Commission on June 12, 2009).
4.4*	NCI, Inc. Amended and Restated 2005 Performance Incentive Plan (incorporated herein by reference from Appendix A to registrant’s Proxy Statement on Form DEF 14A, as filed with the Commission on April 30, 2009).
4.5*	Form of Amended and Restated 2005 Performance Incentive Plan Notice of Stock Option Grant and Stock Option Agreement (incorporated herein by reference from Exhibit 4.2 to registrant’s Current Report on Form 8-K, as filed with the Commission on June 12, 2009).
10.1	Amended and Restated Loan and Security Agreement, dated as of December 13, 2010, by and among NCI, Inc., NCI Information Systems Incorporated, Operational Technologies Services, Inc., as Borrowers, the several banks and financial institutions from time to time parties thereto, as Lenders, SunTrust Bank as the Administrative Agent to the Lenders and SunTrust Robinson Humphrey, Inc., as Lead Arranger and Book Manager (incorporated by reference from Exhibit 10.1 to registrant’s Current Report on Form 8-K dated December 13, 2010, and filed with the Commission on December 15, 2010).
10.2*	Executive Change in Control and Severance Agreement, dated March 9, 2012, by and among, NCI, Inc. and Brian J. Clark. (incorporated herein by reference from Exhibit 10.2 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on March 12, 2012).
10.3*	Executive Change in Control and Severance Agreement, dated March 9, 2012, by and among, NCI, Inc. and Marco de Vito (incorporated herein by reference from Exhibit 10.3 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on March 12, 2012).
10.4*	Executive Change in Control and Severance Agreement, dated March 9, 2012, by and among, NCI, Inc. and Michele R. Cappello (incorporated herein by reference from Exhibit 10.4 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on March 12, 2012).
10.5*	Executive Change in Control and Severance Agreement, dated March 9, 2012, by and among, NCI, Inc. and Lucas J. Narel (incorporated herein by reference from Exhibit 10.5 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on March 12, 2012).
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‡	Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS	XBRL Instance Document
101.SCH	XBRL Extension Schema
101.CAL	XBRL Extension Calculation Linkbase
101.DEF	XBRL Extension Definition Linkbase
101.LAB	XBRL Extension Label Linkbase
101.PRE	XBRL Extension Presentation Linkbase

‡ Included with this filing.

* Management Contract or Compensatory Plan or Arrangement.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.

		NCI, Inc.
		Registrant
Date: May 1, 2013	By:	/s/ LUCAS J. NAREL
		Lucas J. Narel
		Executive Vice President, Chief Financial Officer and Treasurer

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