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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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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 November 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 _____________
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Commission File Number 0-15295
NICHOLS RESEARCH CORPORATION
(Exact name of registrant as specified in its charter)
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DELAWARE 63-0713665
-------- ----------
(State or other jurisdiction of (I.R.S.Employer
incorporation or organization) Identification no.)
4090 Memorial Parkway, South
Huntsville, Alabama 35802-1326
(256) 883-1140
(Address, including zip code, and telephone number of principal offices)
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4040 Memorial Parkway, South
Huntsville, Alabama 35802-1326
(Former name, address and fiscal year if changed since last report)
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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 practical date.
COMMON STOCK, $.01 PAR VALUE
14,074,693 SHARES OUTSTANDING ON November 30, 1998
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FORM 10-Q
NICHOLS RESEARCH CORPORATION
QUARTERLY REPORT FOR THE PERIOD ENDED NOVEMBER 30, 1998
INDEX
Page
----
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Income for the Three Months
Ended November 30, 1998 and November 30, 1997 (Unaudited)............. 1
Consolidated Balance Sheets as of November 30, 1998 and
August 31, 1998 (Unaudited)........................................... 2-3
Consolidated Statements of Changes in Stockholders' Equity
for the Three Months Ended November 30, 1998 and
November 30, 1997 (Unaudited)......................................... 4
Consolidated Statements of Cash Flows for the Three Months
Ended November 30, 1998 and November 30, 1997
(Unaudited)........................................................... 5
Notes to Financial Statements (Unaudited)............................. 6-8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations ............................................ 9-19
Item 3. Quantitative and Qualitative Disclosures About Market Risk............ 19
Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K...................................... 20
Signatures............................................................ 21
FORM 10-Q
NICHOLS RESEARCH CORPORATION
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
For the Three Months Ended
November 30, November 30,
1998 1997
Restated
---------------------------------------
(amounts in thousands except share data)
Revenues............................................. $ 101,349 $ 88,540
Costs and expenses:
Direct and allocable costs....................... 84,678 73,944
General and administrative expenses.............. 10,033 7,875
Amortization of intangibles...................... 1,021 1,095
---------------------------------------
Total costs and expenses.................. 95,732 82,914
---------------------------------------
Operating profit..................................... 5,617 5,626
Other income (expense):
Interest expense................................. (70) (90)
Other income, principally interest............... 146 285
Equity in earnings of unconsolidated affiliates.. 128 130
Minority interest in consolidated subsidiaries... (66) (331)
---------------------------------------
Income before income taxes........................... 5,755 5,620
Income taxes ....................................... 2,266 2,172
---------------------------------------
Net income........................................... $ 3,489 $ 3,448
=======================================
Earnings per common share............................ $ .25 $ .26
=======================================
Earnings per common share assuming dilution.......... $ .25 $ .25
=======================================
Weighted average common shares....................... 13,849,824 13,463,386
=======================================
Weighted average number of common and common equivalent
shares............................................... 14,142,861 14,022,045
=======================================
NOTE: The Company has not declared or paid dividends in any of the periods
presented. All prior periods have been restated to reflect the acquisition of
Welkin Associates, Ltd., which was accounted for as a pooling of interests.
See accompanying notes.
1
FORM 10-Q
NICHOLS RESEARCH CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
November 30, August 31,
1998 1998
Restated
-----------------------------------
(amounts in thousands)
ASSETS
Current assets:
Cash and temporary cash investments.................. $ 11,150 $ 11,275
Accounts receivable.................................. 121,538 113,392
Deferred income taxes................................ 2,513 2,488
Other................................................ 2,473 3,939
-----------------------------------
Total current assets............................. 137,674 131,094
Long-term investments..................................... 1,513 1,519
Property and equipment:
Computers and related equipment...................... 31,443 29,465
Furniture, equipment and improvements................ 12,880 12,210
Equipment-contracts.................................. 5,934 5,771
-----------------------------------
50,257 47,446
Less accumulated depreciation............................. 26,737 25,011
-----------------------------------
Net property and equipment........................... 23,520 22,435
Goodwill and other intangibles(net of accumulated
amortization).......................................... 56,209 57,262
Software development costs (net of accumulated
amortization).......................................... 4,024 3,928
Investment in affiliates.................................. 9,819 9,607
Other assets.............................................. 1,457 1,491
-----------------------------------
Total assets.............................................. $ 234,216 $ 227,336
===================================
NOTE: The Company has not declared or paid dividends in any of the periods
presented. All prior periods have been restated to reflect the acquisition of
Welkin Associates, Ltd., which was accounted for as a pooling of interests.
2
FORM 10-Q
NICHOLS RESEARCH CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
CONTINUED
November 30, August 31,
1998 1998
Restated
------------------------------------
(amounts in thousands)
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable....................................... $ 20,858 $ 24,278
Accrued compensation and benefits...................... 23,881 18,317
Income taxes payable................................... 3,546 1,681
Current maturities of long-term debt................... 997 997
Borrowings on line of credit........................... 5,000 5,000
Deferred revenue....................................... 797 1,797
Other.................................................. 238 1,040
------------------------------------
Total current liabilities.......................... 55,317 53,110
Deferred income taxes....................................... 572 354
Long-term debt:
Industrial development bonds........................... 1,335 1,335
Long-term notes........................................ 1,484 1,613
------------------------------------
Total long-term debt............................... 2,819 2,948
Minority interest in consolidated subsidiaries.............. 1,190 1,177
Stockholders' equity:
Common stock, par value $.01 per share
Authorized - 30,000,000 shares
Issued -14,074,693 and 13,997,455 shares........... 141 140
Additional paid-in capital............................. 96,712 95,631
Retained earnings...................................... 78,753 75,264
Less cost of treasury stock - 168,500 shares........... (1,288) (1,288)
------------------------------------
Total stockholders' equity......................... 174,318 169,747
------------------------------------
Total liabilities and stockholders' equity.................. $ 234,216 $ 227,336
====================================
NOTE: The Company has not declared or paid dividends in any of the periods
presented. All prior periods have been restated to reflect the acquisition of
Welkin Associates, Ltd., which was accounted for as a pooling of interests.
3
FORM 10-Q
NICHOLS RESEARCH CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS' EQUITY (UNAUDITED)
Additional Total
Common Stock Paid-In Retained Treasury Stockholders'
Shares Amount Capital Earnings Stock Equity
---------------------------------------------------------------------------------------------
(amounts in thousands except share data)
For the Three Months Ended November 30, 1998
--------------------------------------------
Balance, August 31, 1998
(Restated) 13,997,455 $ 140 $ 95,631 $ 75,264 $ (1,288) $ 169,747
Exercise of stock options 43,988 1 477 -- -- 478
Employee stock purchases 33,250 -- 604 -- -- 604
Net Income -- -- -- 3,489 -- 3,489
---------------------------------------------------------------------------------------------
Balance, November 30,1998 14,074,693 $ 141 $ 96,712 $ 78,753 $ (1,288) $ 174,318
=============================================================================================
For the Three Months Ended November 30, 1997 - Restated
-------------------------------------------------------
Balance, August 31, 1997 13,533,346 $ 135 $ 90,076 $ 61,545 $ (1,288) $ 150,468
Exercise of stock options 127,398 1 1,321 -- -- 1,322
Employee stock purchases 24,273 1 484 -- -- 485
Adjustment for Welkin -- -- -- (479) -- (479)
Net Income -- -- -- 3,448 -- 3,448
---------------------------------------------------------------------------------------------
Balance, November 30,1997 13,685,017 $ 137 $ 91,881 $ 64,514 $ (1,288) $ 155,244
=============================================================================================
4
FORM 10-Q
NICHOLS RESEARCH CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
For the Three Months Ended
November 30, November 30,
1998 1997
Restated
--------------------------------------
(amounts in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................... $ 3,489 $ 3,448
Adjustments to reconcile net income to net cash provided (used)
by operating activities:
Provision for doubtful accounts.......................... 104 --
Depreciation ............................................ 1,858 1,303
Amortization............................................. 1,021 1,095
Equity in earnings of unconsolidated affiliates.......... (128) (130)
Minority interest........................................ 66 331
Deferred Taxes........................................... 193 75
Changes in assets and liabilities net of effects of acquisitions:
Accounts receivable...................................... (8,250) 820
Other assets............................................. 1,663 (716)
Accounts payable......................................... (3,420) (3,846)
Accrued compensation and benefits........................ 5,564 1,556
Income taxes payable..................................... 1,865 1,800
Other current liabilities................................ (1,802) (1,151)
--------------------------------------
Total adjustments........................................ (1,266) 1,139
--------------------------------------
Net cash provided/(used) by operating
activities........................................... 2,223 4,587
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment............................ (2,943) (2,854)
Purchase of long-term investments............................. -- (100)
Purchase of capitalized software.............................. (280) (62)
Payment for investment in affiliates.......................... (84) (500)
Proceeds from maturity of long-term investments............... 6 550
--------------------------------------
Net cash provided/(used) by investing activities......... (3,301) (2,966)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock........................ 1,082 1,807
Payments of long-term debt.................................... (129) (135)
Proceeds from line of credit................................... 5,000 --
Payments on line of credit borrowings......................... (5,000) (10,000)
--------------------------------------
Net cash provided/(used) by financing activities......... 953 (8,328)
--------------------------------------
Net increase/(decrease) in cash and temporary cash
investments.............................................. (125) (6,707)
FORM 10-Q
NICHOLS RESEARCH CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)CONTINUED
For the Three Months Ended
November 30, November 30,
1998 1997
Restated
--------------------------------------
(amounts in thousands)
Cash and temporary cash investments at
beginning of period...................................... 11,275 23,964
--------------------------------------
Cash and temporary cash investments at end of period.......... $ 11,150 $ 17,257
======================================
5
FORM 10-Q
NICHOLS RESEARCH CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
November 30, 1998
Note 1 - Basis of Presentation
----------------------
The condensed consolidated financial statements (and all other information in
this report) have not been examined by independent auditors, but in the opinion
of the Company, all adjustments, consisting of the normal recurring accruals
necessary for a fair presentation of the results for the period, have been made.
The condensed consolidated financial statements include the accounts of Nichols
Research Corporation and its majority-owned subsidiaries and joint ventures. All
significant intercompany balances and transactions have been eliminated in
consolidation. The Company's earnings in unconsolidated affiliates and joint
ventures are accounted for using the equity method.
Note 2 - Accounting Pronouncements
-------------------------
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement No. 128, Earnings Per Share. The overall objective of Statement No.
128 is to simplify the calculation of earnings per share (EPS) and achieve
comparability with recently issued international accounting standards. The
Company first reported on the new EPS basis in the second quarter ended February
28, 1998. All prior period EPS amounts (including information regarding EPS in
interim financial statements, earnings summaries, and selected financial data)
have been restated to conform to the provisions of Statement No. 128.
In June 1997, the FASB issued Statement No. 130, Reporting Comprehensive Income
(SFAS 130). Statement No. 130 establishes new rules for the reporting and
display of comprehensive income and its components. Adoption of Statement No.
130 by the Company on September 1, 1998 had no impact on the Company's
consolidated results of operations or stockholders' equity.
In June 1997, the FASB issued Statement No. 131, Disclosures About Segments of
an Enterprise and Related Information (SFAS 131). Statement No. 131 changes the
method of determining segments from that currently required, and requires the
reporting of certain information about such segments. The Company has not
finalized how its segments will be reported or whether and to what extent
segment information will differ from that currently presented.
Note 3 - Reclassification
----------------
Certain prior period amounts have been reclassified to conform with the current
period's presentation and the final purchase price allocation for TXEN, Inc.
6
FORM 10-Q
NICHOLS RESEARCH CORPORATION
Note 4 - Investment in affiliates
------------------------
As of November 30, 1998 the Company holds a 50% interest in
NCCIM, LLC. at an aggregate cost of $1,345,000. Undistributed equity earnings of
$652,000 are included in the November 30, 1998 Retained Earnings balance
reported in the Consolidated Balance Sheet.
Note 5 - Line of Credit
--------------
The Company has a bank line of credit which provides for unsecured
borrowings up to $100,000,000. The credit agreement provides for interest at
London Interbank Offered Rate (LIBOR) plus a margin ranging from 0.325% to
0.450% and a facility fee, payable quarterly, of approximately 0.125% on the
unused portion of the line of credit. The short-term commitment agreement
($50,000,000) expired in November, 1998 and was renewed for one year. The
100,000,000 line of credit continues to be renewable annually and the long-term
commitment agreement ($50,000,000) is renewable in November, 2000. At November
30, 1998, there was $5,000,000 outstanding on this line of credit at an
effective interest rate of 5.62 percent.
Note 6 - Earnings Per Share
------------------
The following table sets forth the computation of earnings per common share and
earnings per common share assuming dilution:
FORM 10-Q
NICHOLS RESEARCH CORPORATION
For the Three Months Ended
November 30, November 30,
1998 1997
Restated
------------------------------------
Numerator:
Net income and income available to
common stockholders and income
available to common stockholders
after assumed conversions.................... $ 3,489,000 $ 3,448,000
====================================
Denominator:
Denominator for earnings per common
share - weighted average common shares....... 13,849,824 13,463,386
Effect of dilutive securities:
Employee stock options....................... 293,037 558,659
Denominator for earnings per common share
assuming dilution - adjusted
weighted average common shares
and assumed coversions....................... 14,142,861 14,022,045
====================================
Earnings per common share............................. $ .25 $ .26
====================================
Earnings per common share assuming
dilution......................................... $ .25 $ .25
====================================
7
FORM 10-Q
NICHOLS RESEARCH CORPORATION
Note 7 - Restatement
-----------
In connection with the Company's filing of a Form S-3 registration
statement unrelated to TXEN, the Company engaged in discussions with the Staff
of the Securities and Exchange Commission (SEC) regarding the purchase price
allocation related to its acquisition of TXEN. These discussions included the
amount allocated to in-process research and development. The Company and its
independent auditors, Ernst & Young LLP, believed the purchase price allocation
recorded and related amortization charges, were in accordance with widely
recognized appraisal practices and generally accepted accounting principles.
However, the SEC Staff has recently expressed views on in-process research and
development as set forth in a letter dated September 15, 1998 to the American
Institute of Certified Public Accountants. The Company, in consultation with its
independent auditor and based on its discussions with the Staff, has adjusted
the amount originally allocated to acquired in-process research and development
and, accordingly, has restated its 1997 and 1998 consolidated financial
statements. As a result, the 1997 write-off of acquired research and development
was decreased $3.5 million from the $12.0 million amount previously recorded to
$8.5 million. Intangible assets and net income were increased by a like amount
because the write-off was not tax deductible. Accordingly, 1997 earnings per
common share and earnings per common share assuming dilution were increased
$0.29 and $0.28 to $0.39 and $0.37, respectively. For 1998, amortization of
intangibles increased $225 thousand or $0.02 per common share and $0.01 per
common share assuming dilution, respectively. Accordingly, 1998 earnings per
share and earnings per common share assuming dilution were reduced by $0.02 and
$0.01 to $1.04 and $1.01, respectively. For the first quarter of 1999,
amoritzation of intangibles increased $56 thousand but had no effect on earnings
per common share assuming dilution.
8
FORM 10-Q
NICHOLS RESEARCH CORPORATION
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
EXCEPT FOR HISTORICAL INFORMATION CONTAINED HEREIN, THIS QUARTERLY REPORT
CONTAINS FORWARD-LOOKING STATEMENTS AS DEFINED IN SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934. SUCH FORWARD-LOOKING STATEMENTS ARE SUBJECT TO VARIOUS
RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY
FROM THOSE PROJECTED IN THE FORWARD-LOOKING STATEMENTS. THESE RISKS AND
UNCERTAINTIES ARE DISCUSSED IN MORE DETAIL IN THE COMPANY'S ANNUAL REPORT ON
FORM 10-K FOR THE FISCAL YEAR ENDED AUGUST 31, 1998, AND IN THE FOLLOWING
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS SECTION OF THIS QUARTERLY REPORT. THESE FORWARD-LOOKING STATEMENTS
CAN BE GENERALLY IDENTIFIED AS SUCH BECAUSE THE CONTENT OF THE STATEMENTS WILL
USUALLY CONTAIN SUCH WORDS AS THE COMPANY OR MANAGEMENT "BELIEVES,"
"ANTICIPATES," "EXPECTS," "PLANS," OR WORDS OF SIMILAR IMPORT. SIMILARLY,
STATEMENTS THAT DESCRIBE THE COMPANY'S FUTURE PLANS, OBJECTIVES, GOALS OR
STRATEGIES ARE FORWARD-LOOKING STATEMENTS.
Overview and Business Environment
- ---------------------------------
The Company is a leading provider of technical and information technology
(IT) services, including information processing, systems development and systems
integration. The Company provides these services to a wide range of clients,
including the Department of Defense (DOD), other federal agencies, state and
local governments, healthcare and insurance organizations, and commercial
enterprises. The Company's business strategy consists of three key elements: (i)
maintain the Company's leadership in technology; (ii) apply the Company's
technology to create solutions for new clients; and (iii) make strategic
acquisitions and investments to expand the business of the Company and gain
industry knowledge.
The Company is organized into four strategic business units, reflecting
the particular market focus of each line of business. The Defense and
Intelligence unit, formerly Nichols Federal, provides technical services
primarily to U.S. Government defense agencies. The Government Information
Technology unit, formerly Nichols InfoFed, provides information and technology
solutions and services to a variety of governmental agencies. The Commercial
Information Technology unit, formerly Nichols InfoTec, provides information and
technology services to various commercial clients, other than healthcare
clients. The Healthcare Information Technology unit, formerly Nichols SELECT,
provides information and administrative services to clients in the healthcare
and insurance industries. For the quarter ended November 30, 1998, the
percentage of total revenues attributable to the four business units was
approximately 60% for Defense and Intelligence, 18% for Government IT, 10% for
Commercial IT, and 12% for Healthcare IT.
Risk Factors
- ------------
The Company's business and financial performance are subject to risks and
uncertainties, including those discussed below.
FORM 10-Q
NICHOLS RESEARCH CORPORATION
ACQUISITION STRATEGY
Expansion through acquisitions is an important component of the Company's
overall business strategy. The Company has successfully completed ten strategic
acquisitions and alliances since September 1, 1994, most of which have centered
on IT and healthcare information services markets. Since the respective dates of
the acquisitions, the Company has integrated these acquired entities in order to
draw on the Company's base of technical expertise and capabilities in designing
solutions for government, commercial, and healthcare clients. The Company's
continued ability to grow by acquisitions is dependent upon, and may be limited
by, the availability of compatible acquisition candidates at reasonable prices,
the Company's ability to fund or finance acquisitions on acceptable terms, and
the Company's ability to maintain or enhance the profitability of any acquired
business.
9
FORM 10-Q
NICHOLS RESEARCH CORPORATION
PERFORMANCE OF LARGE SYSTEMS INTEGRATION CONTRACTS
As part of the Company's business strategy to enter new markets, the
Company continues to pursue large systems integration contracts in both the
government and commercial markets, although competition for such contracts is
intense and many of the Company's competitors have greater resources than the
Company. While such contracts are working capital intensive, requiring large
equipment and software purchases to be funded by the Company before payment from
the customer, the Company believes such contracts offer attractive revenue
growth and margin expansion opportunities for the Company's range of technical
expertise and capabilities.
VARIABILITY OF QUARTERLY EARNINGS OR OPERATING RESULTS
The Company's revenues and earnings may fluctuate from quarter to quarter
based on such factors as the number, size, and scope of projects in which the
Company is engaged, the contractual terms and degree of completion of such
projects, expenditures required by the Company in connection with such projects,
any delays incurred in connection with such projects, employee utilization
rates, the adequacy of provisions for losses, the accuracy of estimates of
resources required to complete ongoing projects, and general economic
conditions. Under certain contracts, the Company is required to purchase,
integrate and deliver to the customer large amounts of computer processing
systems and other equipment. Revenues are accrued as costs to deliver these
systems are incurred, and as a result, quarterly revenues will be impacted by
fluctuations related to equipment purchases which occur on a periodic basis
depending on contract terms and modifications.
UNCERTAINTIES ASSOCIATED WITH GOVERNMENT CONTRACTS
The Company performs its services under U.S. Government contracts that
usually require performance over a period of one to five years. Long-term
contracts may be conditioned upon continued availability of Congressional
appropriations. Variances between anticipated budgets and Congressional
appropriations may result in delay, reduction, or termination of such contracts.
Contractors can experience revenue uncertainties with respect to available
contract funding during the first quarter of the government's fiscal year
beginning October 1, until differences between budget requests and
appropriations are resolved. The Company's contracts with the U.S. Government
and its prime contractors are subject to termination, in whole or in part,
either upon default by the Company or at the convenience of the government. The
termination for convenience provisions generally entitle the Company to recover
costs incurred, settlement expenses, and profit on work completed prior to
termination. Because the Company contracts to supply goods and services to the
U.S. Government, it is also subject to other risks, including contract
suspensions, audit adjustments, protests by disappointed bidders of contract
awards which can result in the re-opening of the bidding process and changes in
government policies or regulations.
10
FORM 10-Q
NICHOLS RESEARCH CORPORATION
CONTRACT PROFIT EXPOSURE
The Company's services are provided primarily through three types of
contracts: fixed-price, time-and-materials and cost-reimbursement contracts.
Fixed-price contracts require the Company to perform services under a contract
at a stipulated price. Time-and-materials contracts reimburse the Company for
the number of labor hours expended at an established hourly rate negotiated in
the contract, plus the cost of materials incurred. Under cost-reimbursement
contracts, the Company is reimbursed for all actual costs incurred in performing
the contract to the extent that such costs are within the contract ceiling and
allowable under the terms of the contract, plus a fee or profit.
The Company assumes greater financial risk on fixed-price contracts than on
either time-and-materials or cost-reimbursement contracts. As the Company
increases its commercial business, it believes that an increasing percentage of
its contracts will be fixed-priced. Failure to anticipate technical problems,
estimate costs accurately, or control costs during performance of a fixed-price
contract, may reduce the Company's profit or cause a loss. In addition, greater
risks are involved under time-and-materials contracts than under
cost-reimbursement contracts because the Company assumes the responsibility for
the delivery of specified skills at a fixed hourly rate. Although management
believes that adequate provision for its fixed-price and time-and-materials
contracts is reflected in the Company's financial statements, no assurance can
be given that this provision is adequate or that losses on fixed-price and
time-and-materials contracts will not occur in the future.
11
FORM 10-Q
NICHOLS RESEARCH CORPORATION
Results of Operations
- ---------------------
The following tables set forth, for the periods indicated, the percentages
which certain items in the consolidated statements of income bear to
consolidated revenues, and the percentage change of such items for the periods
indicated:
Percentage of Revenues
for the Three Months Ended
November 30, November 30, Percentage
1998 1997 Change
Restated
--------------------------------------------------
Revenues 100.0% 100.0% 14.5%
Costs and expenses:
Direct and allocable costs............. 83.6 83.5 14.5
General and administrative expenses.... 9.9 8.9 27.4
Amortization of intangibles............ 1.0 1.2 (6.8)
-----------------------------------
Total costs and expenses........... 94.5 93.6 15.5
-----------------------------------
Operating profit............................ 5.5 6.4 (0.2)
Other income (expense):
Interest expense............................ (0.1) (0.1) 22.2
Other income, principally interest.......... 0.2 0.3 (48.8)
Equity in earnings of unconsolidated
affiliates............................... 0.2 0.1 (1.5)
Minority interest in consolidated
subsidiaries............................. (0.1) (0.4) (80.1)
-----------------------------------
Income before income taxes.................. 5.7 6.3 2.4
Income taxes................................ 2.2 2.4 4.3
-----------------------------------
Net income.................................. 3.5% 3.9% 1.2%
===================================
The table below presents contract award and backlog data for the periods
indicated:
Quarter Ended November 30,
1998 1997
----------------------------------
(amounts in thousands)
Contract award amount..................... $ 32,684 $ 42,428
Backlog (with options).................... $ 1,197,816 $ 1,227,338
Backlog (without options)................. $ 330,568 $ 380,574
12
FORM 10-Q
NICHOLS RESEARCH CORPORATION
COMPARISON OF OPERATING RESULTS FOR FIRST FISCAL QUARTER 1999 WITH FIRST FISCAL
QUARTER 1998
REVENUES: Revenues increased $12.8 million (14.5%) for the fiscal quarter
ended November 30, 1998 as compared to the fiscal quarter ended November 30,
1997. The revenues of the Defense and Intelligence unit, representing
approximately 60% of the Company's consolidated revenues for the quarter,
increased $ 7.7 million (14.6%), primarily the result of continued growth in
existing contracts. The revenues of the Government IT unit, representing
approximately 18% of the Company's consolidated revenues for the quarter, was
$18.0 million as compared to $17.9 million in the prior year. The revenues of
the Commercial IT unit, representing approximately 10% of the Company's
consolidated revenues for the quarter, increased $ 2.3 million (28.4%),
primarily the result of its expanded business base. The revenues of the
Healthcare IT, representing approximately 12% of the Company's consolidated
revenus for the quarter, increased $ 2.7 million (28.5%), primarily the result
of continued growth in number of clients.
OPERATING PROFIT: Operating profit was $5.6 million for the fiscal quarter
ended November 30, 1998 as compared $5.6 million for the fiscal quarter ended
November 30, 1997. Direct and allocable costs increased $10.7 million (14.5%)
for the fiscal quarter ended November 30, 1998 as compared to the fiscal quarter
ended November 30, 1997, as a result of the increase in revenues. General and
administrative expenses increased $2.2 million (27.4%) for the fiscal quarter
ended November 30, 1998 as compared to the fiscal quarter ended November 30,
1997, primarily the result of acquisition of Mnemonic System, Incorporated
completed in April 1998. Total costs and expenses were 94.5% of revenues for the
fiscal quarter ended November 30, 1998 as compared 93.6% for the fiscal quarter
ended November 30, 1997.
OPERATING MARGINS: The operating margin was 5.5% for the fiscal quarter
ended November 30, 1998 as compared to 6.4% the fiscal quarter ended November
30, 1997. The Defense and Intelligence unit realized a 6.4% operating margin for
the fiscal quarter ended November 30, 1998 as compared to 4.7% the fiscal
quarter ended November 30, 1997. These improved margins are primarily the result
of increased margins on time-and-material contracts. The Government IT unit
realized a 5.7% operating margin for the fiscal quarter ended November 30, 1998
as compared to 7.8% the fiscal quarter ended November 30, 1997. This decrease in
margins is primarily the result of a decrease in high margin contracts. The
Commercial IT unit realized a -6.6% operating margin for the fiscal quarter
ended November 30, 1998 as compared to 9.2% the fiscal quarter ended November
30, 1997. The decrease in margins is primarily the result of the expenses
associated with overstaffing. Healthcare IT realized an 11.8% operating margin
for the fiscal quarter ended November 30, 1998 as compared to 11.6% the fiscal
quarter ended November 30, 1997.
13
FORM 10-Q
NICHOLS RESEARCH CORPORATION
OTHER INCOME (EXPENSE). Other income (expense) increased $0.1 million for
the fiscal quarter ended November 30, 1998 as compared to the fiscal quarter
ended November 30, 1997. Other income includes equity in earnings of
unconsolidated affiliates and interest income; other expense includes interest
expense and minority interest in consolidated subsidiaries. Substantially all
available cash is invested in interest-bearing accounts or fixed income
instruments. Interest expense includes the cost of long-term and short-term
borrowings of the Company and the commitment fee on its unused line of credit.
Equity in earnings of unconsolidated affiliates for the fiscal quarters
ended November 30, 1998 and 1997 primarily represents the Company's share of the
earnings of NCCIM, LLC a joint venture, 50% of which is owned by the Company.
Minority interest in consolidated subsidiaries primarily represents the
minority partner's share of earnings of Nichols ENTEC, LLC a joint venture, 60%
of which is owned by the Company. The decrease in minority interest of $0.3
million for the fiscal quarter ended November 30, 1998 as compared to the fiscal
quarter ended November 30, 1997 is primarily the result of expenses associated
with overstaffing.
INCOME TAXES. Income taxes as a percentage of income before taxes was
39.4% in the fiscal quarter ended November 30, 1998 as compared to 38.7% in the
fiscal quarter ended November 30, 1997.
NET INCOME. Net income increased $0.04 million (1.2%) for the fiscal
quarter ended November 30, 1998 as compared to the fiscal quarter ended November
30, 1997. The increase is a result of the items discussed.
EARNINGS PER COMMON SHARE ASSUMING DILUTION. Earnings per common share
assuming dilution for the fiscal quarter ended November 30, 1998 were $.25 as
compared to $.25 for fiscal quarter ended November 30, 1997. Net income
increased 1.2% ($0.04 million), while weighted average number of common and
common equivalent shares outstanding increased 0.9% (120,816 shares) for fiscal
quarter ended November 30, 1998 as compared to fiscal quarter ended November 30,
1997.
14
FORM 10-Q
NICHOLS RESEARCH CORPORATION
Liquidity And Capital Resources
- -------------------------------
Historically, the Company's positive cash flow from operations and
available credit facilities have provided adequate liquidity and working capital
to fully fund the Company's operational needs and support the acquisition
program. Working capital was $82.4 million and $73.2 million at November 30,
1998 and 1997, respectively. Operating activities provided cash of $2.2 million
for the quarter ended November 30, 1998 and cash of $4.6 million for the quarter
ended November 30, 1997. Investing activities used cash of $3.3 million for the
quarter ended November 30, 1998 and $3.0 million for the quarter ended November
30, 1997. Financing activities provided cash of $1.0 million for the quarter
ended November 30, 1998 and used cash of $8.3 million for the quarter ended
November 30, 1997.
Cash provided by operating activities decreased $2.4 million for the
quarter ended November 30, 1998 as compared to the quarter ended November 30,
1997. The primary difference is changes in operating assets and liabilities.
Cash used for investing activities was $3.3 million for the quarter ended
November 30, 1998. Purchases of property and equipment were $3.0 million and
$2.9 million for the fiscal quarters ended November 30, 1998 and 1997,
respectively.
Cash provided from financing activities was $1.0 million for the quarter
ended November 30, 1998. The Company realized proceeds from the sale of common
stock of $1.1 million and $1.8 million for the the fiscal quarters ended
November 30, 1998 and 1997, respectively.
The Company renegotiated its bank line of credit in November, 1998. The
agreement provides for unsecured borrowings up to $100,000,000. The credit
agreement provides for interest at London Interbank Offered Rate (LIBOR) plus a
margin ranging from 0.325% to 0.450% and a facility fee, payable quarterly, of
approximately 0.125% on the unused portion of the line of credit. The short-term
commitment agreement ($50,000,000) is renewable annually and the long-term
commitment agreement ($50,000,000) is renewable in November, 2000. There was
$5,000,000 in outstanding borrowings on this line of credit at November 30,
1998.
The Company is regularly evaluating potential acquisition candidates and
expects to complete other transactions in fiscal year 1999.
15
FORM 10-Q
NICHOLS RESEARCH CORPORATION
The Company continues to actively pursue contracts for information system
development and computer system integration activities, which could require the
Company to acquire substantial amounts of computer hardware for resale or lease
to customers. The timing of payments to suppliers and payments from customers
under the Company's system integration contracts could cause cash flows from
operations to fluctuate from period to period.
The Company believes that, for the next four fiscal quarters, its existing
capital resources, together with available borrowing capacity, will be
sufficient to fund operating needs, finance acquisitions of property and
equipment, and make strategic acquisitions, if appropriate.
EFFECTS OF INFLATION
Substantially all contracts awarded to the Company have been based on
proposals which reflect estimated cost increases due to inflation. Historically,
inflation has not had a significant impact on the Company.
YEAR 2000
Overview
Historically, certain computerized systems have had two digits rather
than four digits to define the applicable year, which could result in
recognizing a date using "00" as the year 1900 rather than the year 2000. This
could cause significant software failures or miscalculations and is generally
referred to as the "Year 2000" problem.
The Company recognizes that the impact of the Year 2000 problem extends
beyond its computer hardware and software and may affect utility and
telecommunication services, as well as the systems of customers and suppliers.
In response to the Year 2000 problem, the Company has developed a
compliance program to evaluate and address date related problems with the
Company's internal systems, services, products, and the systems and products of
the Company's vendors and suppliers. The compliance program is managed by the
Vice President of Corporate Information Systems and Services, and is patterned
after the United States General Accounting Office (GAO) and Office of Management
and Budget project management model. The Company's Year 2000 compliance program
includes five major phases:
Awareness Phase. The Year 2000 problem is defined and managers at the
executive level are educated about potential date related problems and the
potential impact to the Company and its customers from Year 2000 date handling
errors. A Year 2000 program team is established and an overall strategy is
developed.
16
Assessment Phase. The Year 2000 program team assesses the Year 2000
impact on the Company by: (i) identifying core business areas and processes;
(ii) performing an inventory and analysis of systems supporting the core
business areas; (iii)contacting third party service providers, and software and
hardware vendors to determine Year 2000 issues and their plans for becoming Year
2000 compliant; and (iv) prioritizing conversion or replacement of systems.
Renovation Phase. The Year 2000 program team corrects Year 2000
problems identified in the Assessment Phase by modifying program software,
updating databases, replacing systems or utilizing other appropriate methods.
Implementation Phase. The Year 2000 program team tests, verifies, and
validates converted or replaced systems, applications, databases and utilities
within a limited operational environment.
Validation Phase. The Year 2000 program team fully implements converted
or replaced systems, applications, databases and utilities. The Year 2000
program team also performs extensive testing of all system changes.
As part of the awareness phase the Company has reviewed
- Mission Essential Software Systems
- Mission Essential Computational Systems (hardware)
- Mission Essential Facilities Systems, including elevators, heating
and air conditioning systems, photocopying machines and utility services
- Mission Essential Network Systems
- Customer Software Services,provided by the Company's business units
- Mission Essential Vendor-Supplied Software and Services
The Company considers a system "mission essential" if a failure in that
system would materially disrupt the ability of the Company to perform
contractual services or to process business information in a timely manner. The
Company monitors the status of its Year 2000 compliance program and routinely
updates its Intranet to provide compliance data to its managers and employees.
The Company provides services and products to the U.S. Government pursuant
to specific contractual terms and exact specifications. The Company believes
that it will be responsible for upgrading only those services or products that
specify Year 2000 compliance and do not yet meet this requirement. The Company
is not currently aware of any such services or products.
Status and Timetable for Year 2000 Compliance
Nichols Research has developed a master timetable for its year 2000
compliance program. The updated status of each major category of mission
essential systems is as follows:
17
SYSTEM CATEGORY PHASE ESTIMATED DATE FOR COMPLIANCE
------------------------------------------------------- ----------------- ------------------------------
Mission Essential Software Systems Renovation April 1999
------------------------------------------------------- ----------------- ------------------------------
Mission Essential Computational Systems Renovation April 1999
------------------------------------------------------- ----------------- ------------------------------
Mission Essential Network Systems Validation Completed
------------------------------------------------------- ----------------- ------------------------------
Mission Essential Facilities Systems Validation Completed
------------------------------------------------------- ----------------- ------------------------------
Mission Essential Customer Systems Renovation April 1999
------------------------------------------------------- ----------------- ------------------------------
Mission Essential Vendor-Supplied Services Validation Unknown
------------------------------------------------------- ----------------- ------------------------------
The phases listed above represent the status of the majority of products
within each category. There may be, within each "system," components at a lower
or higher phase in the Year 2000 assessment.
While the Mission Essential Vendor Supplied Services category is listed as
having an Unknown estimated date for compliance, many of the Services within
this category have had their validation phase completed.
Contingency Plans
Because the Company's Year 2000 conversions are expected to be
completed prior to any potential disruption to the Company's business, the
Company has not yet completed the development of a comprehensive Year 2000
contingency plan. However, the Company has minimized its exposure to Year 2000
failures of vendor supplied products by adding Year 2000 compliance as a
standard condition to its purchase orders. These contracts also reference
Federal Acquisition Regulation 39.106, which addresses Year 2000 compliance
issues. The Company is currently negotiating a Risk Management Insurance Policy
designed to protect the Company in the event that it is involved in litigation
arising from errors and omissions relating to Year 2000 issues. If the Company
determines that its business is at material risk of disruption due to the Year
2000 problem, or anticipates that its Year 2000 conversions will not be
completed in a timely fashion, the Company will work to develop a detailed
contingency plan.
Cost for Year 2000 Compliance
The Company believes that the total cost of its Year 2000 compliance
activity will not be material to the Company's operation, liquidity and capital
resources. The Company estimates that the total cost for its Year 2000
compliance will be $688,500 which represents 11,475 hours of analysis,
18
modification and testing, and $34,500 for new equipment purchases. To date, the
Company has completed 6,850 hours of Year 2000 compliance work, and purchased
new equipment valued at $27,000, for a total cost of $438,000.
Year 2000 Risks Faced by the Company
Although the Company believes that its Year 2000 compliance program is
comprehensive, the Company may not be able to identify, successfully remedy or
assess all date-handling problems in its business systems or operations or those
of its customers and suppliers. As a result, the Year 2000 problem could have a
materially adverse affect on the Company's business financial condition or
results of operations.
Item 3 - Quantitative and Qualitative Disclosures About Market Risk
Not Applicable.
19
FORM 10-Q
NICHOLS RESEARCH CORPORATION
PART II - OTHER INFORMATION
Item 6 - Exhibits and Reports on Form 8-K
(a) Exhibits.
Exhibit No. Description
----------- -----------
10.1 Employment Agreement of Charles A. Leader*
10.2 Supplemental Retirement Benefit Plan
between the Registrant and Charles A. Leader*
10.3 Form of Indemnification Agreement between
Registrant and Its Directors
27 Financial Data Schedule
(b) No reports on Form 8-K were filed during the fiscal quarter ended November
30, 1998.
- -----------------
* Denotes management contract or compensatory plan or arrangement required to be
filed as an exhibit to this report.
20
FORM 10-Q
NICHOLS RESEARCH CORPORATION
SIGNATURES
MANAGEMENT REPRESENTATION
-------------------------
The accompanying unaudited Consolidated Balance Sheets at November
30, 1998 as well as the Consolidated Statements of Income, Consolidated
Statements of Changes in Stockholders' Equity and Consolidated Statements of
Cash Flows for the three months ended November 30, 1998 and 1997, have been
prepared in accordance with instructions to Form 10-Q and do not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments, consisting only of normal recurring accruals, considered necessary
for a fair presentation have been included.
January 14 , 1998 Allen E. Dillard
----------------- ----------------
Date Allen E. Dillard
Corporate Vice President,
Chief Financial Officer
and Corporate Treasurer
(Principal Financial and
Accounting Officer)
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.
NICHOLS RESEARCH CORPORATION
January 14 , 1998 Allen E. Dillard
----------------- ----------------
Date Allen E. Dillard
Corporate Vice President,
Chief Financial Officer
and Corporate Treasurer
(Principal Financial and
Accounting Officer)
21