UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ...... to ......
Registrant, State of Incorporation,
Address and Telephone Number
----------------------------
GRC INTERNATIONAL, INC.
(a Delaware Corporation)
1900 Gallows Road
Vienna, Virginia 22182
(703) 506-5000
Commission I.R.S. Employer
File No. Identification No.
- ---------- ------------------
1-7517 95-2131929
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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Outstanding at
Class of Common Stock October 31, 1998
- --------------------- ----------------
$.10 par value 10,220,491 shares
CONTENTS
Forward-Looking Statements
In addition to historical information, this Form 10-Q Quarterly Report contains
forward-looking statements. The forward-looking statements contained herein are
subject to certain risks and uncertainties that could cause actual results to
differ materially from those reflected in the forward-looking statements.
Factors that might cause such a difference include, but are not limited to,
those discussed in the section of this Form 10-Q captioned "Management's
Discussion and Analysis." The Company undertakes no obligation to publicly
revise these forward-looking statements, to reflect events or circumstances that
arise after the date hereof. Readers should carefully review the risk factors
described in the Company's Form 10-K Annual Report and other documents the
Company files from time to time with the Securities and Exchange Commission,
including the Quarterly Reports on Form 10-Q to be filed by the Company
subsequent to this Form 10-Q and any Current Reports on Form 8-K filed by the
Company.
Page
PART I - FINANCIAL INFORMATION
A. FINANCIAL STATEMENTS
Consolidated Condensed Statements of Income 3
Consolidated Condensed Balance Sheets 4
Consolidated Condensed Statements of Cash Flows 6
Notes to Consolidated Condensed Financial Statements 8
B. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 10
C. PART II - OTHER INFORMATION 17
Note: The consolidated condensed financial statements included herein have
been prepared by the Company, without audit, pursuant to the rules
and regulations of the Securities and Exchange Commission. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations, although the Company believes that the disclosures are
adequate to make the information presented not misleading.
It is suggested that these consolidated condensed financial
statements be read in conjunction with the consolidated financial
statements and the notes thereto included in the Company's latest
annual report on Form 10-K.
2
GRC INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except for per share data)
(unaudited)
Three Months Ended
September 30,
1998 1997
--------- -------
Revenues $ 36,756 $ 27,165
Cost of revenues 30,964 22,160
Indirect costs and other costs 3,675 3,595
----------- ---------
Operating income 2,117 1,410
Interest expense, net (352) (528)
----------- ---------
Income from continuing operations
before income tax benefit 1,765 882
Income tax benefit 1,265 254
----------- ---------
Income from continuing operations 3,030 1,136
Gain from discontinued operations
(net of tax) 54 290
----------- ---------
Net Income $ 3,084 $ 1,426
========== ==========
Income per common and
common equivalent share:
Basic
Continuing operations $ 0.29 $ 0.12
Discontinued operations 0.01 0.03
----------- -----------
Net income $ 0.30 $ 0.15
=========== ==========
Number of shares used in basic EPS
calculation 10,214 9,632
=========== ==========
Diluted
Continuing operations $ 0.29 $ 0.12
Discontinued operations 0.01 0.03
----------- ----------
Net income $ 0.30 $ 0.15
=========== ==========
Number of shares used in diluted EPS
calculation 10,386 9,792
=========== ==========
The accompanying notes are an integral part of these statements.
3
GRC INTERNATIONAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
September 30, June 30,
1998 1998
------------- -------
(in thousands)
CURRENT ASSETS:
Cash and cash equivalents $ 3,029 $ 3,648
Accounts receivable, net 27,153 28,702
Unbilled reimbursable costs and fees, net 4,408 4,189
Other receivables 1,037 893
Prepaid expenses and other current assets 1,370 486
Deferred income taxes 1,239 1,239
--------- ---------
Total current assets 38,236 39,157
--------- ---------
PROPERTY AND EQUIPMENT,
at cost, net of accumulated depreciation
and amortization of $11,810 and $11,069 9,200 9,569
--------- ---------
OTHER ASSETS:
Goodwill and other intangible assets, net 2,101 2,176
Deferred software costs, net --- 349
Deferred taxes 17,978 16,678
Deposits and other 3,361 3,334
--------- ---------
Total other assets 23,440 22,537
--------- ---------
TOTAL ASSETS $ 70,876 $ 71,263
========= ========
The accompanying notes are an integral part of these statements.
4
GRC INTERNATIONAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
September 30, June 30,
1998 1998
------------- --------
(in thousands)
CURRENT LIABILITIES:
Current maturities of long-term debt $ 529 $ 975
Accounts payable 1,494 3,897
Accrued compensation and benefits 11,430 13,268
Accrued expenses and other current liabilities 2,665 1,944
Net liabilities of discontinued operations 339 297
--------- ---------
Total current liabilities 16,457 20,381
--------- ---------
LONG-TERM LIABILITIES:
Long-term debt 23,750 23,264
Other long-term liabilities 277 258
--------- ---------
Total long-term liabilities 24,027 23,522
--------- ---------
Total liabilities $ 40,484 $ 43,903
========= =========
STOCKHOLDERS' EQUITY:
Commonstock, $.10 par value
Authorized - 30,000,000 shares
Issued - 10,516,563 shares
and 10,508,791 shares 1,051 1,051
Paid-in capital 79,660 79,712
Accumulated deficit (46,474) (49,558)
--------- ---------
34,237 31,205
Less: Treasury stock, at cost; 300,000 shares (3,845) (3,845)
--------- ---------
Total stockholders' equity 30,392 27,360
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 70,876 $ 71,263
========= =========
The accompanying notes are an integral part of these statements.
5
GRC INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Three Months Ended
September 30,
1998 1997
------- ------
(in thousands)
CASH FLOWS FROM CONTINUING OPERATIONS:
Income from continuing operations $ 3,030 $ 1,136
Reconciliation of income from continuing operations:
Depreciation and amortization 816 769
Loss provision on current assets 434 77
Loss on disposal of property and equipment 348
Deferred income tax benefit (1,300) (254)
Changes in assets and liabilities:
Accounts receivable and unbilled
reimbursable costs and fees (141) 856
Prepaid expenses and other current assets 9 (93)
Accounts payable, accruals and
other current liabilities (3,520) (2,361)
Other (59) (31)
-------- -------
NET CASH (USED IN) PROVIDED BY OPERATING ACTIVITIES (383) 99
-------- -------
CASH FLOWS FROM DISCONTINUED OPERATIONS:
Gain from discontinued operations 54 290
Reconciliation of income from discontinued operations:
Non-cash charges and changes in working capital 42 (1,308)
Proceeds from sale of discontinued operations --- 400
-------- -------
NET CASH PROVIDED BY (USED IN) DISCONTINUED OPERATIONS 96 (618)
-------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions of property and equipment (373) (142)
Other 1 (35)
-------- -------
NET CASH USED ININVESTING ACTIVITIES (372) (177)
-------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on debt and capital lease obligations (448) (587)
Bank borrowings 488 503
Issuance of common stock --- (2)
Other --- 1
-------- -------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 40 (85)
-------- -------
NET (DECREASE) IN CASH AND CASH EQUIVALENTS (619) (781)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 3,648 5,756
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 3,029 $ 4,975
======== ========
The accompanying notes are an integral part of these statements.
6
GRC INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Three Months Ended
September 30,
1998 1997
------- ------
(in thousands)
Supplemental disclosures:
Cash paid for:
Interest $ 421 $ 515
Income taxes $ 35 $ 12
Other non-cash financing activities:
Conversion of debenture to common stock $ --- $1,225
The accompanying notes are an integral part of these statements.
7
GRC INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
(unaudited)
(1) The condensed consolidated financial statements included herein have
been prepared by the Company, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations. The results of operations presented herein are not
necessarily indicative of the results to be expected for a full year.
Although the Company believes that all material adjustments (consisting
only of normal recurring adjustments) necessary for a fair presentation
of the interim periods presented are included and that the disclosures
are adequate to make the information presented not misleading, these
condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-K for the
fiscal year ended June 30, 1998.
(2) At September 30, 1998, the Company was party to a revolving credit
agreement that provides for secured borrowings of up to $22 million, of
which $16.0 million (net of cash) was utilized at September 30, 1998.
The agreement extends to January 2000, with the bank required to
provide 15 months prior written notice to terminate the facility
(absent any defaults under the agreement). The bank has provided up to
an additional $8 million in term loan financing under a standby
facility, available on an offering basis, with borrowings thereunder
due September 1, 2000, of which $4.75 million was utilized at September
30, 1998. Advances under the revolving credit agreement and the term
loans accrue interest at the prime rate. The collateral under the
Amended and Restated Revolving Credit and Term Loan Agreement includes
all of the Company's assets, except for property and equipment.
The revolving credit agreement contains certain covenants, including a
material adverse change clause, which require the Company to maintain
certain minimums for earnings, tangible net worth, working capital and
debt ratios. At September 30, 1998, the Company was in compliance with
its covenants under this Agreement.
Debt at September 30, 1998 and June 30, 1998 consisted of the
following:
September 30, 1998 June 30, 1998
------------------ -------------
Revolving Credit Agreement $ 18,994 $ 18,506
Term Loans 4,750 4,750
Equipment Financing 515 961
Other 20 22
-------- --------
Total Debt $ 24,279 $ 24,239
Less: Current Portion (529) (975)
-------- --------
Long Term Debt $ 23,750 $ 23,264
======== ========
8
(3) Discontinued Operations. Since the Company adopted its plan to dispose
of the Company's Telecommunications and Advanced Products Divisions in
February of 1997, the Company has successfully sold all of the business
units comprising those divisions, i.e., the OSU(R) Network Interface,
GRC Instruments/Dynatup, Vindicator, NetworkVUE, and Commercial
Information Solutions ("CIS") business units. The income from
discontinued operations for the first three months of fiscal 1999
consists of $54 thousand in royalties on sales of the Company's former
OSU(R) Network Interface. Additional information is provided below in
"Management's Discussion and Analysis of Financial Condition and
Results of Operations."
(4) Income Taxes. The Company recognized an incremental deferred tax asset
of $1.3 million through the first three months of fiscal year 1999. The
total deferred tax asset balance was $19.2 million at September 30,
1998. The Company expects to realize its income tax carryforwards over
approximately the next five years.
9
GRC INTERNATIONAL, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THREE MONTHS ENDED September 30, 1998 and 1997
(unaudited)
Summary
The revenues and operating income and interest expense of the Company are
presented for the periods indicated:
Three Months Ended
------------------------
9/30/98 9/30/97
------- -------
Revenues $ 36,756 $ 27,165
======== ========
Operating income 2,117 1,410
Interest expense, net (352) (528)
-------- --------
Income from continuing operations
before income tax benefit 1,765 882
Income tax benefit 1,265 254
Gain from discontinued
operations (net of tax) 54 290
--------- --------
Net income $ 3,084 $ 1,426
========= ========
Results of Operations - Three Months Ended September 30, 1998 and 1997
- ----------------------------------------------------------------------
Revenues
- --------
Revenues for the first quarter of fiscal 1999 increased 35.3% to $36.8 million
from $27.2 million for the same period in fiscal 1998.
For the first quarter of fiscal 1999, revenues of $36.8 million consisted of
$35.9 million in services revenues and $900 thousand in product revenues. During
the same period of fiscal 1998, revenues of $27.2 million consisted of $26.7
million in services revenue and $419 thousand in product revenues. The total
revenue increase of $9.6 million during the first quarter of fiscal 1999 is
primarily the result of a significant increase in subcontract revenues on
additional U.S. Government contract awards, in particular, GCSS Army and GSA
Charleston B.P.A. The Company's maximum contract backlog was $575 million at
September 30, 1998.
Cost of Revenues and Gross Profit
- ---------------------------------
Cost of revenues for the first quarter of fiscal 1999 increased 39.7% to $31.0
million, or 84.2% of revenues, from $22.2 million, or 81.6% of revenues, for the
same period in fiscal 1998. The
10
cost of revenue increase of $8.8 million is directly related to the increase in
revenues during the same period and reflects an increase in the use of
subcontractors.
Gross profit for the first quarter of fiscal 1999 increased 15.7% to $5.8
million, or 15.8% of revenues, from $5.0 million, or 18.4% of revenues, for the
same period in fiscal 1998. This increase of $787 thousand is a direct result of
the increase in revenues during the same period.
Operating Expenses and Operating Income
- ---------------------------------------
Operating expenses consist of selling, general and administrative, research and
development, and other costs. Operating expenses for the first quarter of fiscal
1999 increased 2.2% to $3.7 million, or 10.0% of revenues, from $3.6 million, or
13.2% of revenues, for the same period in fiscal 1998. This relatively flat
level of operating expenses and related reduction in percentage of revenues
reflects the stability in the corporate infrastructure since the company's
divestiture of discontinued operations and the return to a focus on the
Company's core services business.
Operating Income for the first quarter of fiscal 1999 increased 50.1% to $2.1
million, or 5.8% of revenues, from $1.4 million, or 5.2% of revenues, for the
same period of fiscal 1998. The increase in operating income of approximately
$707 thousand is the direct result of the increase in revenues during the first
quarter of fiscal 1999.
Net Interest Income or Expense
- ------------------------------
Net interest expense for the first quarter of fiscal 1999 decreased 33.3% to
$352 thousand, or 1.0% of revenues, from $528 thousand, or 1.9% of revenues, for
the same period of fiscal 1998. The decrease in net interest expense of
approximately $176 thousand reflects the decrease in debt carried during the
first quarter of fiscal 1999.
Income Tax Benefit
- ------------------
The Company expects to realize its deferred tax asset as a result of eliminating
the loss generating discontinued divisions. As a consequence, the Company has
now recognized a portion of the benefit available from its tax loss
carryforwards. As of September 30, 1998, the Company's total net deferred tax
asset is $19.2 million, which is comprised of current deferred taxes of $1.2
million and long term deferred taxes of $18.0 million.
The Company expects to record a tax benefit in each quarter of fiscal 1999, at
which time the full deferred tax asset will be recorded. Beginning in fiscal
2000, the Company expects to record a quarterly tax provision.
Realization of the net deferred tax asset of $19.2 million is dependent on
generating sufficient taxable income prior to expiration of the loss
carryforwards. Although realization is not assured, management believes it is
more likely than not that all of the recorded net deferred tax asset will be
realized. The amount of the deferred tax asset considered realizable, however,
could be reduced in the near term if estimates of future taxable income during
the carryforward periods are reduced.
Discontinued Operations
- -----------------------
During fiscal 1997, the Company adopted a plan to dispose of its
Telecommunications and Advanced Products Divisions. As of January 8, 1998, all
business units within those divisions
11
had been sold. Consequently, the Company has reported its results of operations
for the Telecommunications and Advanced Products Divisions as discontinued
operations.
On April 30, 1997, the Company sold the assets and liabilities of its GRC
Instruments/Dynatup business unit of its discontinued Advanced Products Division
for $2.0 million in cash.
On June 5, 1997, the Company sold the assets and liabilities of its Vindicator
business unit of its discontinued Advanced Products Division for approximately
$700 thousand, with an initial payment of $250 thousand. Subsequent installments
of approximately $130 thousand have been received. The remainder of the purchase
price, $320 thousand, reflected within net liabilities of discontinued
operations at September 30, 1998, was received in October 1998.
On June 27, 1997, the Company sold the assets and liabilities of its OSU
business unit of its discontinued Telecommunications Division for an initial
payment of $1.5 million and royalties on sales of the OSU unit or derivatives
over the next 10 years.
On December 19, 1997, the Company sold the assets of its Commercial Information
Solutions ("CIS") component of its discontinued Advanced Products Division in
exchange for royalties on future sales of Flow Gemini and derivative products
and related services.
On January 8, 1998, the Company sold the assets of its NetworkVUE business unit
of its discontinued Telecommunications Division in exchange for royalties on
future sales of NetworkVUE, NetSolve and derivative products and related
services.
Income from discontinued operations for the first quarter of fiscal 1999 was $54
thousand, compared with income of $290 thousand during the same quarter of
fiscal 1998.
Financing
- ---------
In January 1997, the Company entered into a Convertible Securities Subscription
Agreement ("Subscription Agreement") pursuant to which an investor purchased a
$4 million 5% Convertible Debenture due January 2000 ("Debenture"). By April
1998, the Debenture had been fully converted into 804,322 shares.
The investor also received a 7-year warrant to purchase 320,000 shares of the
Company's Common Stock at a price of $8.47 per share ("Debenture Warrant"). The
Debenture Warrant became exercisable on July 31, 1998. If the Company sells
substantially all of its assets or enters into a merger or acquisition or other
similar transaction, the Debenture Warrant is to be repriced at the lesser of
(i) $8.47 per share, or (ii) 80% of the Transaction Value (as defined in the
Debenture Warrant).
The Company is a party to a Structured Equity Line Flexible Financing Agreement
("Equity Line Agreement") whereby the Company can require the investor to
purchase up to $3 million of the common stock per quarter up to an aggregate
maximum of $18 million over a 3 year period beginning October 1, 1998. The
purchase price is equal to 94% of the low trade price during the 3 trading days
immediately preceding the notice of purchase by the investor. The investor,
however, may not purchase common stock if such low trade price is less than $4
per share. If the Company issues less than $5 million of its common stock under
the Equity Line Agreement, it must pay the investor up to $300,000 as liquidated
damages. The investor also received a 7-year Warrant to purchase 125,000 shares
of the Company's common stock at a price of $8.47 per share ("Equity Line
Warrant"). If the Company elects to issue more than $5 million, the
12
Company will issue an additional 7-year warrant for the purchase of 75,000
shares of the Company's common stock ("Additional Equity Line Warrant") at a
price equal to 140% of the price of the common stock at the time of the issuance
of the Additional Equity Line Warrant. Under a related Registration Rights
Agreement ("Registration Rights Agreement"), the Company was obligated to file a
registration statement with the Securities and Exchange Commission with respect
to the Company's common stock for which the Equity Line Warrant and the
Additional Line Warrant (collectively, the "Equity Line Warrants") are
exchangeable. The Equity Line Warrant became exercisable on July 31, 1998. If
the Company sells substantially all of its assets or enters into a merger or
acquisition or other similar transaction, the Equity Line Warrant will be
repriced at the lesser of (i) $8.47, or (ii) 80% of the Transaction Value (as
defined in the Equity Line Warrant). The Additional Equity Line Warrant, when
issued, will contain provisions similar to the Equity Line Warrant. The
investor's obligation to purchase under the Equity Line Agreement is subject to
various conditions, including (i) the effectiveness of a registration statement
with respect to the underlying shares, (ii) limitations based on the price and
volume of the Company's common stock, and (iii) the percentage of the common
stock beneficially owned by the investor from time to time.
Liquidity and Capital Resources
- -------------------------------
The Company had $3.0 million in cash and cash equivalents at September 30, 1998,
compared to $3.6 million at June 30, 1998.
Net cash used in continuing operations amounted to $619 thousand during the
first quarter of fiscal 1999, compared to cash used in continuing operations of
$781 thousand for the first quarter of fiscal 1998. Net cash provided by
discontinued operations amounted to $96 thousand during the first quarter of
fiscal 1999, compared to $618 thousand used during the same period of fiscal
year 1998. Net cash used in investing activities during the first quarter of
fiscal 1999 amounted to $372 thousand, compared to $177 thousand used during the
same period for fiscal year 1998. Net cash provided by financing activities
amounted to $40 thousand during the first quarter of fiscal 1999, compared to
net cash of $85 thousand used during the first quarter of fiscal 1998.
At September 30, 1998, the carrying value of the Company's debt amounted to
$24.3 million, $529 thousand of which was classified as short term, and $23.8
million of which was classified as long term. The Company had $24.2 million of
bank debt and equipment lease financing at June 30, 1998.
The credit facilities with the Company's bank consist of an $8 million term loan
standby facility, available on an offering basis, with borrowings thereunder due
September 1, 2000 ("Term Loan") of which $4.8 million was drawn down at
September 30, 1998, a $22 million revolving line of credit ("Revolving Credit"),
of which $19.0 million was used at September 30, 1998, and a $515 thousand debt
(as of September 30, 1998) arising from the equipment financing ("Equipment
Lease") arranged with the bank's equipment leasing subsidiary.
The Term Loan is due on September 1, 2000, and bears interest at the bank's
floating prime rate, currently 8.0% per annum. The Revolving Credit is due on
January 15, 2000, and, if the Company is not in default, is automatically
renewable for one-year renewal terms unless the bank, at its option, delivers
written notice of non-renewal to the Company at least 15 months prior to the end
of the initial term or any renewal term. No notice of non-renewal was received
by October 15, 1998, and, thus, the Revolving Credit is currently repayable on
January 15, 2001. The Revolving Credit has typically been renewed in the past,
and the Company
13
anticipates that it will continue to be renewed, although there is no guarantee
of renewal. The Revolving Credit bears interest at the bank's floating prime
rate, currently 8.0% per annum. The Term Loan and Revolving Credit facilities
are collateralized by the Company's working capital and equipment. The Equipment
Lease was originally for a term of 60 months which commenced in June 1996 and
bears interest at 9%. It is now expected to be paid in full by January 1999.
The Amended and Restated Revolving Credit and Term Loan Agreement ("Loan
Agreement") containing the Term Loan and Revolving Credit has been amended from
time to time (most recently on March 31, 1997) to amend various financial ratio
covenants so as to bring the Company into compliance with those covenants as of
those dates. At September 30, 1998, the Company was in compliance with its
covenants under this Agreement.
The chairman of the board of the bank providing the credit under the Loan
Agreement and Equipment Lease is a member of the board of directors of the
Company. The Company believes that the terms of its credit agreements with the
bank are substantially similar to those that could have been obtained from an
unaffiliated third party.
Quantitative and Qualitative Information About Market Risk
- ----------------------------------------------------------
The Company does not hold instruments which are sensitive to interest rate,
foreign currency exchange, commodity price, or equity risks. As previously
discussed, the Company, under its bank debt, is a net borrower at floating prime
rates. Thus, an increase in bank prime rates would have a significant adverse
impact on the Company's profitability and cash flows.
Outlook
- -------
With the discontinuation of the Telecommunications and Advanced Products
Divisions, the Company is now entirely focused on its information technology and
professional services business. This business has been and is expected to remain
profitable with positive operating cash flows. With the positive free cash flow
expected from the services business, the Company expects, over time, to be able
to continue to reduce the outstanding principal amount of its bank debt.
Risk Factors
- ------------
The Company and its shareholders face a number of risks, including, but not
limited to:
* The Company's ability to achieve its targeted levels of profitability by
successfully managing its overall cost structure within its bid rates on
government contracts.
* The Company's ability to keep and attract the personnel required to service
its current and future contract portfolio.
* A dependence upon government contracting in general, and particularly a
high concentration of the Company's business with the U.S. Government,
Department of Defense and its instrumentalities.
* The high degree of financial leverage under which the Company will continue
to operate until its current debt levels are reduced and its equity levels
increased.
14
* The Company's ability to manage within amounts accrued for, and to fund
residual net cash expenditures required by, its discontinued operations.
* Dilution which may result from (i) sales of stock by the Company under the
Equity Line Agreement, (ii) exercise of the Debenture Warrant and Equity
Line Warrant, and (iii) exercise of employee and director stock options.
* The risk that the Company will not be able to sell stock under the Equity
Line Agreement in the event various conditions set forth therein are not
satisfied.
* Potential vulnerabilities of the Company related to the "Year 2000"
computer problem.
Year 2000 Issue
- ---------------
The Year 2000 (Y2K) problem is the result of computer programs being written
using two digits rather than four to define the applicable year. Thus, the year
1998 is represented by the number "98" in many legacy software applications.
Consequently, on January 1, 2000, the year will jump back to "00", and to
systems that are non-Y2K compliant, the time will seem to have reverted back 100
years. So, when computing basic lengths of time, the Company's computer
programs, certain building infrastructure components (including, elevators,
alarm systems, telephone networks, sprinkler systems, security access systems
and certain HVAC systems) and any additional time-sensitive software that are
non-Y2K compliant may recognize a date using "00" as the year 1900. This could
result in system failures or miscalculations which could cause personal injury,
property damage, disruption of operations, and/or delays in payments from the
Company's customers, any or all of which could materially adversely effect the
Company's business, financial condition, or results of operations.
During the fourth quarter of fiscal 1998, the Company implemented an internal
Y2K compliance task force. The goal of the task force is to minimize the
disruptions to the Company's business, which could result from the Y2K problem,
and to minimize other liabilities which the Company might incur in connection
with the Y2K problem. The task force consists of existing employees of the
Company, and no new employees have been hired specifically to address the
Company's internal Y2K issues.
The Company is in the process of conducting a company-wide assessment of its
computer systems and operations infrastructure, including systems being
developed to improve business functionality, to identify computer hardware,
software, and process control systems that are not Y2K compliant. The Company
presently believes that its business-critical computer systems which are not
presently Y2K-compliant will have been replaced, upgraded or modified in the
normal replacement cycle prior to 2000.
The Company's financial accounting software system is an old system, which was
built in the 1980's on a commercial database platform by Company employees. The
Company has modified this system to be Y2K compliant, with the exception of a
few small bugs which are being fixed. The system is also being tested for Y2K
compliance by the vendor of the platform on which the system resides. This
Company believes that this vendor is the most familiar with the computing
environment in which the system operates, and that therefore, this vendor is the
party best able to test the system. The Company has been advised that this
testing will be completed during the quarter ending December 31, 1998. If
significant deficiencies are found, the Company may have to expend significant
resources to correct them, or in an extreme case, the Company may have to
purchase and implement a new system on an accelerated basis. Either of those
outcomes would be likely to have a material adverse affect on the Company's
operating results and financial position.
15
The Company's human resources/payroll and purchasing systems are separate
off-the-shelf commercial systems, which are certified as Y2K compliant by the
vendors of the systems. The Company is also performing some internal testing of
the Y2K compliance of these systems.
The Company has also initiated communications with third parties whose computer
systems' functionality could impact GRCI. These communications will facilitate
coordination of Y2K solutions and will permit GRCI to determine the extent to
which the Company may be vulnerable to failures of third parties to address
their own Y2K issues. However, as to the systems of the third parties that are
linked to GRCI, in particular those of the U.S. Government, there can be no
guarantee that such systems that are not now Y2K compliant will be timely
converted to Y2K compliance.
The Company is also assessing any potential Y2K-related exposure it may have
with respect to software or hardware it has delivered to its customers.
The costs of the Company's Y2K compliance efforts are being funded with cash
flows from operations. As normal business costs, these costs are generally
reimbursible by the government under the Company's government contracts, under
present regulations. In total, these costs are not expected to be substantially
different from the normal, recurring costs that are incurred for systems
development, implementation and maintenance. As a result, these costs are not
expected to have a material adverse effect on GRCI's overall results of
operations or cash flows.
Additionally, there can be no guarantee that third parties of business
importance to GRCI, in particular the U.S. Government, will successfully and
timely reprogram or replace, and test, all of their own computer hardware,
software and process control systems. Because the majority of the Company's
business is contracted with the U.S. Government, the failure of the U.S.
Government to achieve Y2K compliance by the year 2000 would have a significant
adverse effect on GRCI's business, financial position, results of operations and
cash flows. Furthermore, if the Company's government customers delay other work
in order to accelerate their own Y2K compliance efforts, it could have a
significant adverse effect on GRCI's business, financial position and results of
operations.
The Company has begun, but has not yet completed, its contingency planning with
respect to the Y2K problem. The Company intends to complete its conntingency
planning by July 1999.
The foregoing assessment of the impact of the Y2K problem on GRCI is based on
management's best estimates at the present time, and could change substantially.
The assessment is based upon numerous assumptions as to future events. There can
be no guarantee that these estimates will prove accurate, and actual results
could differ from those estimated if these assumptions prove inaccurate.
16
PART II - OTHER INFORMATION
Items 1, 2, 3, and 5 are inapplicable.
Item 4 - Results of Votes of Security Holders
On November 5, 1998, the Annual Meeting of Shareholders was held. The
shareholders reelected 2 current directors as follows:
Director For Withhold Abstain Broker Nonvotes
-------- --- -------- ------- ---------------
Frank J.A. Cilluffo 9,610,647 354,281 -0- -0-
Leslie B. Disharoon 9,628,306 336,622 -0- -0-
The shareholders ratified the selection of Deloitte & Touche, L.L.P. as
independent public accountants for the fiscal year ending June 30, 1999 as
follows:
For Against Abstain Broker Nonvotes
--- ------ ------- ---------------
9,792,843 146,290 25,795 -0-
The shareholders approved the shareholder proposal to declassify the Board of
Directors as follows:
For Against Abstain Broker Nonvotes
--- ------- ------- ---------------
4,392,577 2,239,559 125,985 3,206,807
The shareholders approved the shareholder proposal to terminate the Shareholder
Rights Plan as follows:
For Against Abstain Broker Nonvotes
--- ------ ------- ---------------
4,444,695 2,174,569 138,854 3,206,810
Item 6(a) Exhibits.
- ------------------
Exhibit No. Description
---------- -----------
11 Statement of Computation of Earnings Per Share
27 Financial Data Schedule
Item 6(b) is inapplicable.
- -------------------------
17
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 thereunto duly authorized.
GRC INTERNATIONAL, INC.
By: /s/ Timothy C. Halsey
-------------------------------------
Timothy C. Halsey
Controller,
(Acting) Chief Financial Officer &
(Acting) Chief Accounting Officer
November 16, 1998
18