Table of Contents
- --------------------------------------------------------------------------------
10-Q OTHERDOC
PART 1.........................................................................2
ITEM 1.........................................................................2
Balance Sheet..................................................................2
Income Statement................................................................
Cash Flow Statement.............................................................
Table 4........................................................................3
Table 5........................................................................4
Table 6.........................................................................
ITEM 2.........................................................................5
ITEM 3.........................................................................9
PART II.......................................................................16
ITEM 1........................................................................16
ITEM 2........................................................................16
ITEM 3........................................................................17
ITEM 4........................................................................17
ITEM 5........................................................................17
ITEM 6........................................................................17
EX-27 OTHERDOC
Exhibit 27 Table..............................................................18
U.S. 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 ENDING SEPTEMBER 30, 2000.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM
____________________ TO ____________________.
COMMISSION FILE NUMBER: 333-84045
PREDICTIVE SYSTEMS, INC.
---------------------------------
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 13-3808483
---------------------------------- ---------------------------------------
(State or other Jurisdiction of (I.R.S. Employer Identification Number)
Incorporation or Organization)
417 FIFTH AVENUE, NEW YORK, NEW YORK 10016
- -----------------------------------------------------------------------------
(Address of Principal Executive Offices) (Zip Code)
(212) 659-3400
- -----------------------------------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Check whether the registrant: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]
As of November 11, 2000, there were 29,353,340 shares of the registrant's common
stock, $.001 par value per share, outstanding.
INDEX
PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
Page
----
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets as of September 30, 2000
(unaudited) and December 31, 1999 ........................ 1
Consolidated Statements of Operations for the three and nine
months ended September 30, 2000 and 1999 (unaudited) ..... 2
Consolidated Statement of Cash Flows for the nine months
ended September 30, 2000 and 1999 (unaudited) ............ 3
Notes to Consolidated Financial Statements (unaudited) ... 4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS ..................... 6
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK .................................................... 11
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS ........................................ 19
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS ................ 19
ITEM 3. DEFAULTS UPON SENIOR SECURITIES .......................... 19
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ...... 19
ITEM 5. OTHER INFORMATION ........................................ 19
ITEM 6. EXHIBITS AND REPORT ON FORM 8-K .......................... 19
ITEM 7. SIGNATURES ............................................... 20
PART 1. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
September 30, 2000 December 31, 1999
------------------ ----------------
(unaudited)
ASSETS
Current assets
Cash and cash equivalents $ 124,864,249 $ 89,633,634
Investment in marketable securities, at market value 8,947,921 2,018,060
Accounts receivable - net of allowance for
doubtful accounts of $881,236 and $568,344, respectively 22,005,219 16,257,304
Unbilled work in process 2,639,415 289,120
Notes receivable - employees 202,085 116,859
Refundable income taxes -- 842,606
Deferred tax asset 6,496,341 --
Prepaid expenses and other current assets 1,375,370 1,219,717
------------- -------------
Total current assets 166,530,600 110,377,300
Property and equipment - net of accumulated
depreciation and amortization of $2,869,786 and $1,703,711, respectively 7,107,208 2,884,105
Goodwill - net of accumulated amortization of $966,401 and $326,871, respectively 3,297,136 3,936,666
Other assets 278,930 224,740
------------- -------------
Total assets $ 177,213,874 $ 117,422,811
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable $ 2,287,749 $ 2,322,065
Accrued expenses 7,089,220 4,714,861
Current portion of capital lease obligations 172,385 183,193
Income taxes payable 127,091 --
Deferred income tax liability 394,820 --
Deferred income 513,705 1,064,721
Deferred rent -- 3,506
------------- -------------
Total current liabilities 10,584,970 8,288,346
------------- -------------
Noncurrent liabilities
Capital lease obligations 162,700 284,037
Deferred rent 506,726 46,357
Deferred income tax liability -- 299,851
Other long-term liabilities -- 2,498
------------- -------------
Total noncurrent liabilities 669,426 632,743
------------- -------------
Total liabilities 11,254,396 8,921,089
------------- -------------
Commitments
Stockholders' equity
Common stock, $.001 par value, 200,000,000 shares authorized,
27,159,211 and 23,429,200 shares issued and outstanding 27,159 23,429
Additional paid-in capital 161,566,443 108,404,681
Deferred compensation (199,555) (256,672)
Retained earnings 4,843,891 369,625
Accumulated other comprehensive loss (278,460) (39,341)
------------- -------------
Total stockholders' equity 165,959,478 108,501,722
------------- -------------
Total liabilities and stockholders' equity $ 177,213,874 $ 117,422,811
============= =============
The accompanying notes to consolidated financial statements
are an integral part of these consolidated balance sheets.
1
PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Three Months Ended September 30 Nine Months Ended September 30
------------------------------- -------------------------------
2000 1999 2000 1999
------------ ------------ ------------ ------------
Revenues:
Professional services $ 23,754,147 $ 13,624,347 $ 64,722,534 $ 34,902,634
Hardware and software sales 912,702 465,108 2,364,435 1,752,809
------------ ------------ ------------ ------------
Total revenues 24,666,849 14,089,455 67,086,969 36,655,443
------------ ------------ ------------ ------------
Cost of revenues:
Professional services 12,137,154 7,004,648 33,011,745 17,250,593
Hardware and software purchases 669,337 299,027 1,777,293 1,330,916
------------ ------------ ------------ ------------
Total cost of revenues 12,806,491 7,303,675 34,789,038 18,581,509
------------ ------------ ------------ ------------
Gross profit 11,860,358 6,785,780 32,297,931 18,073,934
------------ ------------ ------------ ------------
Sales and marketing 3,168,536 2,423,927 8,945,321 5,833,224
General and administrative 6,954,218 4,709,994 18,819,571 12,086,419
Depreciation and amortization 665,991 341,330 1,805,605 653,465
Noncash compensation expense 19,039 19,039 57,117 28,914
Operating profit (loss) 1,052,574 (708,510) 2,670,317 (528,088)
Other income (expense):
Interest income 2,085,410 31,409 5,306,745 100,983
Other (expense) income (4,666) 19,013 (15,783) 55,895
Interest expense (12,163) (25,046) (43,989) (134,124)
------------ ------------ ------------ ------------
Income before income tax provision (benefit) 3,121,155 (683,134) 7,917,290 (505,334)
Income tax provision (benefit) 1,339,374 (55,214) 3,443,024 305,851
------------ ------------ ------------ ------------
Net income (loss) $ 1,781,781 $ (627,920) $ 4,474,266 $ (811,185)
============ ============ ============ ============
Net income (loss) per share: Basic $ 0.07 $ (0.06) $ 0.18 $ (0.09)
============ ============ ============ ============
Net income (loss) per share: Diluted $ 0.05 $ (0.06) $ 0.13 $ (0.09)
============ ============ ============ ============
Weighted average shares outstanding: Basic 26,591,508 10,389,157 25,195,475 9,441,071
============ ============ ============ ============
Weighted average shares outstanding: Diluted 33,102,323 10,389,157 33,844,093 9,441,071
============ ============ ============ ============
The accompanying notes to consolidated financial statements
are an integral part of these consolidated statements.
2
PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Nine Months Ended September 30
--------------------------------
2000 1999
------------- -------------
Cash flows from operating activities:
Net income (loss) $ 4,474,266 $ (811,185)
Adjustments to reconcile net income (loss) to
net cash provided by (used in) operating activities:
Noncash compensation expense 57,117 28,914
Deferred income taxes 2,438,005 (733,836)
Depreciation and amortization 1,805,605 653,465
Provision for doubtful accounts 312,892 386,579
Unrealized gain on marketable securities (19,363) --
(Increase) decrease in-
Accounts receivable (6,060,807) (7,252,802)
Unbilled work in process (2,350,295) 539,317
Income taxes 969,697 698,767
Prepaid expenses and other current assets (155,653) (385,013)
Other assets (54,190) (37,824)
Increase (decrease) in-
Accounts payable (34,316) (204,231)
Accrued expenses 2,374,359 1,369,358
Deferred income (551,016) (283,909)
Deferred rent 456,863 (21,094)
Other long-term liabilities (2,498) (264,259)
------------- -------------
Net cash provided by (used in) operating activities 3,660,666 (6,317,753)
------------- -------------
Cash flows from investing activities:
Net proceeds from sale or redemption / (purchase of) of marketable securities (6,929,861) --
Net repayments from (payments to) employees (85,226) (8,836)
Payments to stockholders -- 515,000
Net repayments from (payments to) related party -- 916,948
Cash received from acquisition of NRCC -- 163,768
Purchase of property and equipment, net (5,521,323) (1,431,207)
------------- -------------
Net cash (used in) provided by investing activities (12,536,410) 155,673
------------- -------------
Cash flows from financing activities:
Cash overdraft -- (475,610)
Proceeds from short-term borrowings -- 4,351,000
Repayments from short-term borrowings -- (9,949,000)
Payment of preferred dividends -- (70,000)
Proceeds from sale of common stock in secondary offering, net of expenses 39,824,079 --
Common shares repurchased to treasury -- (8,398,753)
Proceeds from sale of preferred stock -- 18,566,225
Proceeds from sale of common stock, net of expenses -- 16,260,000
Receipts from ESPP 1,305,702 --
Proceeds from exercise of stock options 3,196,334 245,219
------------- -------------
Net cash provided by financing activities 44,326,115 20,529,081
------------- -------------
Effects of exchange rates (219,756) 56,611
------------- -------------
Net increase in cash 35,230,615 14,423,612
Cash and cash equivalents - beginning of period 89,633,634 --
------------- -------------
Cash and cash equivalents - end of period $ 124,864,249 $ 14,423,612
============= =============
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 43,989 $ 182,884
============= =============
Taxes $ 83,734 $ 440,993
============= =============
Supplemental disclosures of noncash transactions:
Dividends declared on mandatory redeemable convertible preferred stock $ -- $ 8,750
============= =============
The accompanying notes to consolidated financial statements
are an integral part of these consolidated statements.
3
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(1) BASIS OF PRESENTATION
The consolidated financial statements and accompanying financial
information as of September 30, 2000 and for the nine months ended
September 30, 2000 and 1999 are unaudited and, and in the opinion of
management, include all adjustments (consisting only of normal recurring
adjustments) which the Company considers necessary for a fair
presentation of the financial position of the Company at such dates and
the operating results and cash flows for those periods. The financial
statements included herein have been prepared in accordance with
generally accepted accounting principles and the instructions of Form
10-Q and Rule 10-01 of Regulation S-X. Accordingly, certain information
and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have
been condensed or omitted. These financial statements should be read in
conjunction with the Company's audited financial statements for the year
ended December 31, 1999. Results for interim periods are not necessarily
indicative of results for the entire year.
(2) NET INCOME (LOSS) PER SHARE
Basic net income (loss) per share is computed by dividing net income
(loss) available to common stockholders by the weighted average number of
shares outstanding. Diluted net income (loss) per share reflects the
potential dilution that would occur if securities or other contracts to
issue common stock were exercised or converted into common stock, unless
they are antidilutive.
The following table reconciles the numerator and denominator for the
calculation:
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
2000 1999 2000 1999
---- ---- ---- ----
(unaudited) (unaudited)
Numerator -
Net income (loss) $ 1,781,781 $(627,920) $ 4,474,266 $(811,185)
Preferred stock dividends - - - (8,750)
----------- ----------- ----------- ----------
Numerator for basic and
diluted earnings per
share - net income (loss)
available to common
stockholders $ 1,781,781 $(627,920) $ 4,474,266 $(819,935)
=========== ========== =========== ==========
Denominator -
Weighted average shares -
Basic 26,591,508 10,389,157 25,195,475 9,441,071
Diluted 33,102,323 10,389,157 33,844,093 9,441,071
========== ========== ========== =========
Net income (loss) per share -
Basic $ 0.07 $ (0.06) $ 0.18 $ (0.09)
Diluted $ 0.05 $ (0.06) $ 0.13 $ (0.09)
========== ========== ========== =========
4
(3) COMPREHENSIVE INCOME (LOSS)
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income," which established standards for
reporting and displaying comprehensive income and its components. The
components of comprehensive income (loss) are as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ ------------------
2000 1999 2000 1999
---- ---- ---- ----
(unaudited) (unaudited)
Net income (loss) $1,781,781 $(627,920) $4,474,266 $(811,185)
Unrealized loss on investments 13,070 -- (19,363) --
Foreign currency translation
adjustment (109,445) 72,310 (219,756) 56,611
---------- --------- ---------- ---------
Comprehensive income (loss) $1,685,406 $(555,610) $4,235,147 $(754,574)
========== ===-===== ========== =========
(4) FOLLOW-ON OFFERING
In April 2000, the Company consummated a follow-on public offering for
3.8 million shares its common stock, of which 1.0 million shares were
sold by the Company, while the remainder were sold by certain
stockholders, resulting in net proceeds to the Company of approximately
$39.8 million after deducting underwriter discounts and commissions and
expenses payable by the Company.
(5) SUBSEQUENT EVENTS
On September 26, 2000, the Company announced that it entered into a
definitive agreement to acquire Synet Service Corporation ("Synet"), a
Minneapolis-based network and systems management consulting firm. On
October 16, 2000, the acquisition was completed in a transaction
accounted for as a purchase. In connection with this transaction, the
Company issued approximately 2.2 million shares of its common stock and
paid approximately $8.4 million in exchange for all of the outstanding
stock and options of Synet. The Company filed a Form 8-K on October 31,
2000 relating to this transaction.
On October 18, 2000, the Company announced that it entered into a
definitive agreement to acquire Global Integrity Corporation ("Global
Integrity"), a wholly-owned subsidiary of Science Applications
International Corporation ("SAIC"), in a stock and cash transaction
valued at approximately $100 million (as of the date of the Agreement),
including up to $14 million of additional value if certain performance
conditions are achieved in calendar year 2001. Global Integrity
provides information security services to Fortune 100 and Global 100
corporations. The Company anticipates closing the acquisition prior to
December 31, 2000.
5
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THIS REPORT CONTAINS FORWARD-LOOKING STATEMENTS RELATING TO
FUTURE EVENTS AND FUTURE PERFORMANCE OF THE COMPANY WITHIN THE MEANING OF
SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934, INCLUDING, WITHOUT LIMITATION, STATEMENTS REGARDING THE
COMPANY'S EXPECTATIONS, BELIEFS, INTENTIONS OR FUTURE STRATEGIES THAT ARE
SIGNIFIED BY THE WORDS "EXPECTS", "ANTICIPATES", "INTENDS", "BELIEVES" OR
SIMILAR LANGUAGE. ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED
IN SUCH FORWARD-LOOKING STATEMENTS. ALL FORWARD-LOOKING STATEMENTS INCLUDED IN
THIS DOCUMENT ARE BASED ON INFORMATION AVAILABLE TO THE COMPANY ON THE DATE
HEREOF, AND THE COMPANY ASSUMES NO OBLIGATION TO UPDATE ANY FORWARD LOOKING
STATEMENTS. THE COMPANY CAUTIONS INVESTORS THAT ITS BUSINESS AND FINANCIAL
PERFORMANCE ARE SUBJECT TO SUBSTANTIAL RISKS AND UNCERTAINTIES. IN EVALUATING
THE COMPANY'S BUSINESS, PROSPECTIVE INVESTORS SHOULD CAREFULLY CONSIDER THE
INFORMATION SET FORTH BELOW UNDER THE CAPTION "RISK FACTORS" IN ADDITION TO THE
OTHER INFORMATION SET FORTH HEREIN AND ELSEWHERE IN THE COMPANY'S OTHER PUBLIC
FILINGS WITH THE SECURITIES AND EXCHANGE COMMISSION.
Substantially all of our revenues are derived from
professional services. We provide network consulting services to our clients on
either a project outsource or collaborative consulting basis. We derive revenues
from these services on both a fixed-price, fixed-time basis and on a
time-and-expense basis. We use our BusinessFirst methodology to estimate and
propose prices for our fixed-price projects. The estimation process accounts for
standard billing rates particular to each project, the client's technology
environment, the scope of the project, and the project's timetable and overall
technical complexity. A member of our senior management team must approve all of
our fixed-price proposals in excess of $1.0 million. For these contracts, we
recognize revenue using a percentage-of-completion method primarily based on
costs incurred. We make provisions for estimated losses on uncompleted contracts
on a contract-by-contract basis and recognize such provisions in the period in
which the losses are determined. Professional services revenues for
time-and-expense based projects are recognized as services are performed. Any
payments received in advance of services performed are recorded as deferred
revenue. Our clients are generally able to reduce or cancel their use of our
professional services without penalty and with little or no notice. We also
derive limited revenues from the sale of hardware and software. We sell hardware
and software only when specifically requested by a client. We expect revenues
from the sale of hardware and software to continue to decline on a percentage
basis.
Since we recognize professional services revenues only when
our consultants are engaged on client projects, the utilization of our
consultants is important in determining our operating results. In addition, a
substantial majority of our operating expenses, particularly personnel and
related costs, depreciation and rent, are relatively fixed in advance of any
particular quarter. As a result, any underutilization of our consultants may
cause significant variations in our operating results in any particular quarter
and could result in losses for such quarter. Factors which could cause
underutilization include:
- the reduction in size, delay in commencement, interruption
or termination of one or more significant projects;
- the completion during a quarter of one or more significant
projects;
- the miscalculation of resources required to complete new
or ongoing projects; and
- the timing and extent of training, weather related
shut-downs, vacations and holidays.
6
Our cost of revenues consist of costs associated with our
professional services and hardware and software purchases. Costs of revenues
associated with professional services include compensation and benefits for our
consultants and project-related travel expenses. Costs of hardware and software
purchases consist of acquisition costs of third-party hardware and software
resold.
On August 12, 1999, we acquired Network Resource Consultants
and Company B.V. for an aggregate purchase price of approximately $4.3 million.
The purchase price was paid in the form of 1,062,814 shares of our common stock
in exchange for all of the outstanding capital stock of Network Resource
Consultants and Company. The acquisition was accounted for as a purchase and
resulted in intangible assets of approximately $4.3 million representing the
excess purchase price over the fair value of the net assets acquired. The
intangible assets are being amortized over a period of 5 years.
On September 16, 1999, we completed the sale of 1,242,000
shares of our common stock to Cisco Systems, Inc. at $12.00 per share for net
proceeds of approximately $14.2 million. On September 22, 1999, we completed the
sale of 94,867 and 18,133 shares of our common stock to General Atlantic
Partners 57, L.P. and GAP Coinvestment Partners 11, L.P., respectively, at
$12.00 per share for net proceeds of approximately $1.4 million.
In November 1999, we consummated the initial public offering
of 4.6 million shares of our common stock at $18.00 per share, which resulted in
net proceeds of approximately $75.1 million after deducting underwriter
discounts and commissions, and expenses as payable by us.
In April 2000, we consummated a follow-on public offering for
3.8 million shares of our common stock, of which 1.0 million shares were offered
by the Company resulting in net proceeds of approximately $39.8 million after
deducting underwriter discounts and commissions, and expenses as payable by us.
In October 2000, we acquired Synet Service Corporation for
approximately 2.2 million shares of the Company's common stock and $8.4 million
in cash. The acquisition was accounted for as a purchase.
In October 2000, the Company entered into a definitive
agreement to acquire Global Integrity Corporation for an aggregate purchase
price of approximately $100 million, including up to $14 million of additional
value if certain performance conditions are achieved in calendar year 2001. The
acquisition will be accounted for as a purchase.
We anticipate that our depreciation and amortization expenses
will significantly increase as a result of the accounting treatment of the Synet
and Global Integrity acquisitions.
We plan to continue to expand our operations by hiring
additional consultants, and adding new offices and systems. The resulting
increase in operating expenses will have a material adverse effect on our
operating results if our revenues do not increase to support such expenses.
Based on all of the foregoing, we believe that our quarterly revenue and
operating results are likely to vary significantly in the future and that
period-to-period comparisons of our operating results are not necessarily
meaningful and should not be relied on as indications of future performance.
7
RESULTS OF OPERATIONS
Three Months Ended September 30, 2000 and 1999
REVENUES. Revenues increased 75.1% to $24.7 million in the
three months ended September 30, 2000 from $14.1 million in the three months
ended September 30, 1999. Revenues from professional services increased 74.4% to
$23.8 million in the three months ended September 30, 2000 from $13.6 million in
the three months ended September 30, 1999. This increase was primarily due to an
increase in the number of professional services projects and an increase in the
size of the projects. Revenues from hardware and software sales increased 96.2%
to $913,000 in the three months ended September 30, 2000 from $465,000 in the
three months ended September 30, 1999. This increase was primarily due to an
increase in client requests for hardware and software, mainly due to an increase
in the number of professional services projects. During the three months ended
September 30, 2000, ICG, Inc. and its affiliates and BellSouth Corporation
accounted for 13.6% and 11.6%, respectively, of our revenues. The number of our
billable consultants increased to 409 as of September 30, 2000 from 263 as of
September 30, 1999.
GROSS PROFIT. Gross profit increased 76.8% to $11.9 million in
the three months ended September 30, 2000 from $6.8 million in the three months
ended September 30, 1999. As a percentage of revenues, gross profit decreased to
48.1% in the three months ended September 30, 2000 from 48.2% in the three
months ended September 30, 1999. Cost of revenues increased to $12.8 million in
the three months ended September 30, 2000 from $7.3 million in the three months
ended September 30, 1999. This increase in cost of revenues was due primarily to
an increase in compensation and benefits paid to consultants.
SALES AND MARKETING EXPENSES. Sales and marketing expenses
increased 30.7% to $3.2 million in the three months ended September 30, 2000
from $2.4 million in the three months ended September 30, 1999. As a percentage
of revenues, sales and marketing expenses decreased to 12.8% in the three months
ended September 30, 2000 from 17.2% in the three months ended September 30,
1999. The increase in absolute dollars was primarily due to an increase of
$297,000 in commissions paid due to an increase in revenues, an in crease of
$272,000 in compensation and benefits paid due to the hiring of additional
personnel and an increase of $176,000 in sales and marketing efforts.
GENERAL AND ADMINISTRATIVE EXPENSES. General and
administrative expenses increased 47.6% to $7.0 million in the three months
ended September 30, 2000 from $4.7 million in the three months ended September
30, 1999. As a percentage of revenues, general and administrative expenses
decreased to 28.2% in the three months ended September 30, 2000 from 33.4% in
the three months ended September 30, 1999. The increase in absolute dollars was
primarily due to an increase of $817,000 in compensation and benefits paid due
to the hiring of additional personnel and increased recruiting efforts, an
increase of $729,000 in facilities and equipment reflecting the continued
investment in our infrastructure, and an increase of $698,000 in professional
services and other administrative costs.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization
increased 95.1% to $666,000 in the three months ended September 30, 2000 from
$341,000 in the three months ended September 30, 1999. This increase was due to
purchases of additional computer equipment to support our growth and
amortization of intangibles of $213,000 associated with the acquisition of
Network Resource Consultants and Company.
NONCASH COMPENSATION EXPENSE. During 1999, we granted options
to purchase shares of common stock at exercises prices that were less than the
fair market value of the underlying shares of common stock. This will result in
noncash compensation expense over the period that these specific options vest.
During the three months ended September 30, 2000 and 1999, we recorded
approximately $19,000 of noncash compensation expenses related to these options.
OTHER INCOME (EXPENSE). Other income increased to $2.1 million
in the three months ended September 30, 2000 from $25,000 in the three months
ended September 30, 1999. This increase was primarily due to an increase in
interest income related to net proceeds from both our initial and secondary
public offerings, which proceeds were invested in interest-bearing cash
equivalents and marketable securities.
8
INCOME TAXES. For the three months ended September 30, 2000,
the income tax provision was $1.3 million on U.S. pre-tax income of $3.0
million. For the three months ended September 30, 1999, the income tax benefit
was $55,000 on U.S. pre-tax losses of $236,000. The difference in the effective
tax rates relates to the provision for a valuation allowance against net
operating losses of our foreign subsidiaries and an increase in expenses not
deductible for tax purposes.
Nine Months Ended September 30, 2000 and 1999
REVENUES. Revenues increased 83.0% to $67.1 million in the
nine months ended September 30, 2000 from $36.7 million in the nine months ended
September 30, 1999. Revenues from professional services increased 85.4% to $64.7
million in the nine months ended September 30, 2000 from $34.9 million in the
nine months ended September 30, 1999. This increase was primarily due to an
increase in the number of professional services projects and an increase in the
size of the projects. Revenues from hardware and software sales increased 34.9%
to $2.4 million in the nine months ended September 30, 2000 from $1.8 million in
the nine months ended September 30, 1999. This increase was primarily due to an
increase in client requests for hardware and software, mainly due to an increase
in the number of professional services projects. During the nine months ended
September 30, 2000, ICG, Inc. and its affiliates accounted for 12.2% of our
revenues. The number of our billable consultants increased to 409 as of
September 30, 2000 from 263 as of September 30, 1999.
GROSS PROFIT. Gross profit increased 78.7% to $32.3 million in
the nine months ended September 30, 2000 from $18.1 million in the nine months
ended September 30, 1999. As a percentage of revenues, gross profit decreased to
48.1% in the nine months ended September 30, 2000 from 49.3% in the nine months
ended September 30, 1999. This decrease in gross profit margin was due to a
reduction in the utilization rate to 76.9% for the nine months ended
September 30, 2000 from 84.5% for the nine months ended September 30, 1999,
partially offset by an increase in average billing rates. Cost of revenues
increased to $34.8 million in the nine months ended September 30, 2000 from
$18.6 million in the nine months ended September 30, 1999. This increase in cost
of revenues was due primarily to an increase in compensation and benefits paid
to consultants.
SALES AND MARKETING EXPENSES. Sales and marketing expenses
consist primarily of compensation and benefits, travel expenses and promotional
expenses. Sales and marketing expenses increased 53.4% to $8.9 million in the
nine months ended September 30, 2000 from $5.8 million in the nine months ended
September 30, 1999. As a percentage of revenues, sales and marketing expenses
decreased to 13.3% in the nine months ended September 30, 2000 from 15.9% in the
nine months ended September 30, 1999. The increase in absolute dollars was
primarily due to an increase of $1.3 million in compensation and benefits paid
due to the hiring of additional personnel, an increase of $1.1 million in
commissions paid due to an increase in revenues and an increase of $755,000 in
sales and marketing efforts.
GENERAL AND ADMINISTRATIVE EXPENSES. General and
administrative expenses increased 55.7% to $18.8 million in the nine months
ended September 30, 2000 from $12.1 million in the nine months ended September
30, 1999. As a percentage of revenues, general and administrative expense
decreased to 28.1% in the nine months ended September 30, 2000 from 33.0% in the
nine months ended September 30, 1999. The increase in absolute dollars was
primarily due to an increase of $2.7 million in professional services and other
administrative costs, an increase of $2.1 million in compensation and benefit
costs due to the hiring of additional personnel and increased recruiting
efforts, and an increase of $1.9 million in facilities and equipment costs
reflecting the continued investment in our infrastructure.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization
increased 176.3% to $1.8 million in the nine months ended September 30, 2000
from $653,000 in the nine months ended September 30, 1999. This increase was due
to purchases of additional computer equipment to support our growth and
amortization of intangibles of $640,000 associated with acquisition of Network
Resource Consultants and Company.
9
NONCASH COMPENSATION EXPENSE. During 1999, we granted options
to purchase shares of common stock at exercises prices that were less than the
fair market value of the underlying shares of common stock. This will result in
noncash compensation expense over the period that these specific options vest.
During the nine months ended September 30, 2000, we recorded approximately
$57,000 of noncash compensation expense related to these options compared to
$29,000 for the nine months ended September 30, 1999.
OTHER INCOME (EXPENSE). Other income increased to $5.2 million
in the nine months ended September 30, 2000 from $23,000 in the nine months
ended September 30, 1999. This increase was primarily due to an increase in
interest income related to net proceeds from both our initial public and
secondary offerings, which proceeds were invested in interest-bearing cash
equivalents and marketable securities.
INCOME TAXES. For the nine months ended September 30, 2000,
the income tax provision was $3.4 million on a pre-tax income of $7.9 million.
For the nine months ended September 30, 1999, the income tax provision was
$306,000 on pre-tax U.S. income of $590,000. The U.S. effective tax rate was
43.7% and 51.8% during the nine months ended September 30, 2000 and 1999,
respectively.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, we have financed our operations through borrowings
under short-term credit facilities, the sale of equity securities and cash flows
from operations. As of September 30, 2000, we had approximately $124.9 million
in cash and cash equivalents. In April 2000, we completed a follow-on public
offering of 1.0 million shares of our common stock and received net proceeds of
approximately $39.8 million, after deducting underwriter discounts and
commissions, and expenses as payable by us.
Net cash provided by operating activities was $3.7 million for the nine
months ended September 30, 2000. During the nine months ended September 30,
2000, we received a tax benefit of approximately $8.8 million related to the
exercise of non-qualified stock options by employees. The positive cash flow
provided by operating activities is offset by an increase of approximately $6.1
million in accounts receivable.
Our capital expenditures were $5.5 million for the nine months ended
September 30, 2000. Capital expenditures related to leasehold improvements for
our new corporate office and purchases of computer equipment and office
furniture.
Subsequent to September 30, 2000, we paid approximately $8.4 million in
cash in connection with our acquisition of Synet Service Corporation. We expect
to pay up to approximately $42.5 million in cash in connection with our
acquisition of Global Integrity Corporation, including up to an additional $14
million if certain performance conditions are achieved in calendar year 2001.
We have a demand loan facility, secured by a lien on all our assets,
under which we may borrow up to the lesser of $10.0 million or 80.0% of eligible
accounts receivable. Amounts outstanding under the facility bear interest at a
rate of 11.25% per annum. As of September 30, 2000, there were no amounts
outstanding under the facility.
10
RISK FACTORS
Risks Related to Our Financial Condition and Business Model
Our limited operating history, particularly in light of our recent growth, makes
it difficult for you to evaluate our business and to predict our future success
We commenced operations in February 1995 and therefore have
only a limited operating history for you to evaluate our business. Because of
our limited operating history, recent growth and the fact that many of our
competitors have longer operating histories, we believe that the prediction of
our future success is difficult. You should evaluate our chances of financial
and operational success in light of the risks, uncertainties, expenses, delays
and difficulties associated with operating a new business, many of which are
beyond our control. You should not rely on our historical results of operations
as indications of future performance. The uncertainty of our future performance
and the uncertainties of our operating in a new and expanding market increase
the risk that the value of your investment will decline.
Because most of our revenues are generated from a small number of clients, our
revenues are difficult to predict and the loss of one client could significantly
reduce our revenues
During the nine months ended September 30, 2000, ICG, Inc. and
its affiliates accounted for 12.2% of our revenues. Our five largest clients
accounted for 40.9% of our revenues for the nine months ended September 30,
2000. For the year ended December 31, 1999, our five largest clients accounted
for 45.8% of our revenues. If one of our major clients discontinues or
significantly reduces the use of our services, we may not generate sufficient
revenues to offset this loss of revenues and our net income will decrease. In
addition, the non-payment or late payment of amounts due from a major client
could adversely affect us. The Company has not performed any additional work for
ICG, Inc. and its affiliates since October 31, 2000 and does not anticipate
performing additional work in the future. As of September 30, 2000, the accounts
receivable from ICG, Inc. and its affiliates was approximately $3.6 million,
which related to work performed in July through September 2000. An additional
$375,000, approximately, was billed in October 2000 for work performed in July
through September 2000 and approximately $36,000 was billed in October 2000 for
work performed in October 2000. On November 14, 2000, ICG, Inc. filed for
federal bankruptcy protection, which creates significant uncertainty regarding
our ability to collect the outstanding accounts receivables due from them. Our
inability to collect accounts receivable due from ICG on a timely basis, or at
all, could adversely effect our earnings in the quarter during which we would
have to write off these receivables. In addition, recent payments received by us
from ICG may be subject to a challenge under federal bankruptcy laws. This could
in turn result in a decline in the price of our Common Stock.
Our clients may terminate their contracts with us on short notice
Our services are often delivered pursuant to short-term
arrangements and most clients can reduce or cancel their contracts for our
services without penalty and with little or short notice. If a major client or a
number of small clients terminate our contracts or significantly reduce or
modify their business relationships with us, we may not be able to replace the
shortfall in revenues. Consequently, you should not predict or anticipate our
future revenues based upon the number of clients we have currently or the number
and size of our existing projects.
Our operating results may vary from quarter to quarter in future periods, and as
a result, we may fail to meet the expectations of our investors and analysts,
which may cause our stock price to fluctuate or decline
Our operating results have varied from quarter to quarter. Our
operating results may continue to vary as a result of a variety of factors.
These factors include:
- the loss of key employees;
- the development and introduction of new service offerings;
11
- reductions in our billing rates;
- the miscalculation of resources required to complete new or ongoing
projects;
- the utilization of our workforce;
- the ability of our clients to meet their payments obligations to us; and
- the timing and extent of training.
Many of these factors are beyond our control. Accordingly, you
should not rely on quarter-to-quarter comparisons of our results of operations
as an indication of our future performance. In addition, our operating results
may be below the expectations of public market analysts or investors in some
future quarter. If this occurs, the price of our common stock is likely to
decline.
We derive a substantial portion of our revenues from fixed-price projects, under
which we assume greater financial risk if we fail to accurately estimate the
costs of the projects
We derive a substantial portion of our revenues from
fixed-price projects. For the year ended December 31, 1999 and the nine months
ended September 30, 2000, fixed-price projects accounted for 35.0% and 44.2% of
our revenue, respectively. We assume greater financial risks on a fixed-price
project than on a time-and-expense based project. If we miscalculate the
resources or time we need for these fixed-price projects, the costs of
completing these projects may exceed the price, which could result in a loss on
the project and a decrease in net income. Further, the average size of our
contracts has increased in recent quarters, resulting in a corresponding
increase in our exposure to the financial risks of fixed-price engagements. We
recognize revenues from fixed-price projects based on our estimate of the
percentage of each project completed in a reporting period. To the extent our
estimates are inaccurate, the revenues and operating profits, if any, that we
report for periods during which we are working on a fixed-price project may not
accurately reflect the final results of the project and we would be required to
record an expense for these periods equal to the amount by which our revenues
were previously overstated.
Our operating results may fluctuate due to seasonal factors which could result
in greater than expected losses
Our results of operations may experience seasonal fluctuations
as businesses typically spend less on network management services during the
summer and year-end vacation and holiday periods. Additionally, as a large
number of our employees take vacation during these periods, our utilization
rates during these periods tend to be lower, which reduces our margins and
operating income. Accordingly, we may report greater than expected losses for
these periods.
Our long sales cycle makes our revenues difficult to predict and could cause our
quarterly operating results to be below the expectations of public market
analysts and investors
The timing of our revenues is difficult to predict because of
the length and variance of the time required to complete a sale. Before hiring
us for a project, our clients often undertake an extensive review process and
may require approval at various levels within their organization. Any delay due
to a long sales cycle could reduce our revenues for a quarter and cause our
quarterly operating results to be below the expectations of public market
analysts or investors. If this occurs, the price of our common stock is likely
to decline.
12
We may need to raise additional capital to grow our business, which we may not
be able to do
Our future liquidity and capital requirements are difficult to predict
because they depend on numerous factors, including the success of our existing
and new service offerings and competing technological and market developments.
As a result, we may not be able to generate sufficient cash from our operations
to meet additional working capital requirements, support additional capital
expenditures or take advantage of acquisition opportunities. Accordingly, we may
need to raise additional capital in the future. Our ability to obtain additional
financing will be subject to a number of factors, including market conditions,
our operating performance and investor sentiment. These factors may make the
timing, amount, terms and conditions of additional financing unattractive for
us. If we are unable to raise additional funds when needed, our ability to
operate and grow our business could be impeded.
Risks Related to Our Strategy and Market
We may have difficulty managing our expanding operations, which may harm our
business
A key part of our strategy is to grow our business; however,
our rapid growth has placed a significant strain on our managerial and
operational resources. From January 1, 1997 to September 30, 2000, our staff
increased from approximately 123 to approximately 556 employees. To manage our
growth, we must continue to improve our financial and management controls,
reporting systems and procedures, and expand and train our work force. We may
not be able to do so successfully.
We may not be able to hire and retain qualified network systems consultants
which could affect our ability to compete effectively
Our continued success depends on our ability to identify,
hire, train and retain highly qualified network management consultants. These
individuals are in high demand and we may not be able to attract and retain the
number of highly qualified consultants that we need. If we cannot retain,
attract and hire the necessary consultants, our ability to grow, complete
existing projects and bid for new projects will be adversely affected.
Competition in the network consulting industry is intense, and therefore we may
lose projects to our competitors
Our market is intensely competitive, highly fragmented and
subject to rapid technological change. We expect competition to intensify and
increase over time. We may lose projects to our competitors, which could
adversely affect our business, results of operations and financial condition. In
addition, competition could result in lower billing rates and gross margins and
could require us to increase our spending on sales and marketing.
We face competition from systems integrators, value added
resellers, network services firms, telecommunications providers, and network
equipment and computer systems vendors. These competitors may be able to respond
more quickly to new or emerging technologies and changes in client requirements
or devote greater resources to the expansion of their market share.
Additionally, our competitors have in the past and may in the
future form alliances with various network equipment vendors that may give them
an advantage in implementing networks using that vendor's equipment.
We also compete with internal information technology
departments of current and potential clients. To the extent that current or
potential clients decide to satisfy their needs internally, our business will
suffer.
13
Our acquisition of Synet Service Corporation and Global Integrity Corporation
may not result in the benefits we anticipate from a combined company
We recently consummated our acquisition of Synet Service
Corporation and also entered into an agreement to acquire Global Integrity
Corporation. The integration of Synet and Global Integrity into our operations
presents us with significant financial, managerial and operational challenges
and may:
- divert management attention form running our existing business;
- require us to expend resources integrating different technologies
and cultures; and
- strain our financial reporting systems and procedures.
The acquisitions may not result in the benefits we anticipate
from the combined company and may underperform relative to our expectations,
including with respect to increased business opportunities and economies of
scale, and the retention of personnel from the acquired companies. Moreover, the
acquisitions will require us to amortize additional goodwill in our financial
statements, leading to an adverse effect on our operating results.
Failure to complete the acquisition of Global Integrity could negatively affect
our operating results and our ability to enter into alternative transactions
If the acquisition of Global Integrity is not completed for
any reason, we may experience a number of adverse consequences, including the
following:
- the price of our common stock may decline to an extent that the
current market price of our common stock reflects an assumption
that the merger will be completed;
- an adverse reaction from investors and potential investors may
reduce our future financing opportunities; and
- the parties' costs related to the merger, including legal and
accounting fees, must be paid even if the merger is not completed
and we have agreed in specified instances, to pay a portion of
Global Integrity's expenses.
If the merger is terminated and we determine to seek another
merger or business combination, there can be no assurance that it will be able
to find a partner at an attractive price.
If we are unable to find suitable acquisition candidates, our growth could be
impeded
A component of our growth strategy is the acquisition of, or
investment in, complementary businesses, technologies, services or products. Our
ability to identify and invest in suitable acquisition and investment candidates
on acceptable terms is crucial to this strategy. We may not be able to identify,
acquire or make investments in promising acquisition candidates on acceptable
terms. Moreover, in pursuing acquisition and investment opportunities, we may be
in competition with other companies having similar growth and investment
strategies. Competition for these acquisitions or investment targets could also
result in increased acquisition or investment prices and a diminished pool of
businesses, technologies, services or products available for acquisition or
investment.
14
Our acquisition strategy could have an adverse effect on client satisfaction
and our operating results
Acquisitions, including those already consummated, involve a number of risks,
including:
- adverse effects on our reported operating results due to accounting
charges associated with acquisitions;
- increased expenses, including compensation expense resulting from newly
hired employees; and
- potential disputes with the sellers of acquired businesses, technologies,
services or products.
Client dissatisfaction or performance problems with an
acquired business, technology, service or product could also have a material
adverse impact on our reputation as a whole. In addition, any acquired business,
technology, service or product could significantly underperform relative to our
expectations.
Competition for experienced personnel is intense and our inability to retain key
personnel could interrupt our business and adversely affect our growth
Our future success depends, in significant part, upon the
continued service and performance of our senior management and other key
personnel, in particular Ronald G. Pettengill, Jr., our Chairman and Chief
Executive Officer, and Robert L. Belau, our President. Losing the services of
any of these individuals may impair our ability to effectively deliver our
services and manage our company, and to carry out our business plan. In
addition, competition for qualified personnel in the network consulting industry
is intense and we may not be successful in attracting and retaining these
personnel. There may be only a limited number of persons with the requisite
skills to serve in these positions and it may become increasingly difficult to
hire these persons. Our business will suffer if we encounter delays in hiring
additional personnel.
Our international expansion efforts, which are a key part of our growth
strategy, may not be successful
We expect to expand our international operations and
international sales and marketing efforts. In January 1999, we commenced
operations in England. In addition, in August 1999, we acquired Network Resource
Consultants and Company, a network consulting company based in The Netherlands.
Additionally, Synet Services Corporation has a German subsidiary and Global
Integrity Corporation has existing operations in England and Japan. We have had
limited experience in marketing, selling and distributing our services
internationally. We may not be able to maintain and expand our international
operations or successfully market our services internationally. Failure to do so
may negatively affect our business, as well as our ability to grow.
Our business may suffer if we fail to adapt appropriately to
the challenges associated with operating internationally
Operating internationally may require us to modify the way we
conduct our business and deliver our services in these markets.
We anticipate that we will face the following challenges internationally:
- the burden and expense of complying with a wide variety of foreign laws
and regulatory requirements;
- potentially adverse tax consequences;
15
- longer payment cycles and problems in collecting accounts receivable;
- technology export and import restrictions or prohibitions;
- tariffs and other trade barriers;
- difficulties in staffing and managing foreign operations;
- cultural and language differences;
- fluctuations in currency exchange rates; and
- seasonal reductions in business activity during the summer months in
Europe.
If we do not appropriately anticipate changes and adapt our
practices to meet these challenges, our growth could be impeded and our results
of operations could suffer.
If we do not keep pace with technological changes, our services may become less
competitive and our business will suffer
Our market is characterized by rapidly changing technologies,
frequent new product and service introductions and evolving industry standards.
As a result of the complexities inherent in today's computing environments, we
face significant challenges in remaining abreast of such changes and product
introductions. If we cannot keep pace with these changes, we will not be able to
meet our clients' increasingly sophisticated network management needs and our
services will become less competitive.
Our future success will depend on our ability to:
- keep pace with continuing changes in industry standards, information
technology and client preferences;
- respond effectively to these changes; and
- develop new services or enhance our existing services.
We may be unable to develop and introduce new services or enhancements to
existing services in a timely manner or in response to changing market
conditions or client requirements.
If the use of large-scale, complex networks does not continue to grow, we may
not be able to successfully increase or maintain our client base and revenues
To date, a majority of our revenues have been from network
management services related to large-scale, complex networks. We believe that we
will continue to derive a majority of our revenues from providing network
design, performance, management and security services. As a result, our future
success is highly dependent on the continued growth and acceptance of
large-scale, complex computer networks and the continued trend among our clients
to use third-party service providers. If the growth of the use of enterprise
networks does not continue or declines, our business may not grow and our
revenues may decline.
If the Internet does not grow and continue to develop as a viable business tool,
demand for our services and our revenues may decline
The growing demand for network management services has been driven in
part by the growth of the Internet. The Internet may not prove to be a viable
commercial marketplace because of:
- inadequate development of the necessary infrastructure;
- lack of development of complementary products (such as high speed modems
and high speed communication lines);
16
- implementation of competing technology;
- delays in the development or adoption of new standards and protocols
required to handle increased levels of Internet activity; or
- governmental regulation.
Moreover, critical issues concerning the use of the Internet
remain unresolved and may affect the growth of the use of such technologies to
solve business problems. If the Internet fails to grow or grows more slowly as a
viable business tool than anticipated, there will be a significant decline in
the need for our services and our revenues will decline.
Risks Related to Intellectual Property Matters and Potential Legal Liability
Unauthorized use of our intellectual property by third parties may damage our
brand
We regard our copyrights, trade secrets and other intellectual
property as critical to our success. Unauthorized use of our intellectual
property by third parties may damage our brand and our reputation. We rely on
trademark and copyright law, trade secret protection and confidentiality and/or
license and other agreements with our employees, customers, partners and others
to protect our intellectual property rights. However, we do not have any patents
or patent applications pending and existing trade secret, trademark and
copyright laws afford us only limited protection. Despite our precautions, it
may be possible for third parties to obtain and use our intellectual property
without our authorization. The laws of some foreign countries are also uncertain
or do not protect intellectual property rights to the same extent as do the laws
of the United States.
We may not be able to obtain trademark protection for some of our important
trademarks, which would significantly impair our ability to prevent others from
using those trademarks and may require us to replace them with new trademarks
The United States Patent and Trademark Office has raised
objections to the registration of our "BUSINESSFIRST" and Predictive logo
trademarks, including likelihood of confusion with pre-existing trademarks. We
have responded to these objections and are awaiting decisions on our responses.
We have not, however, received any objections from third parties asserting
likelihood of confusion claims with respect to our trademarks. Nonetheless, we
may not be able to obtain trademark registrations in the United States or
England, where we presently have pending trademark applications for our
"PREDICTIVE SYSTEMS" and "BUSINESSFIRST" marks, for one or more of these
trademarks, in which case we will be unable to enforce any statutory trademark
rights against third parties for these trademarks, and/or we must decide to
replace such trademarks with new trademarks.
We may have to defend against intellectual property infringement claims, which
could be expensive and, if we are not successful, could disrupt our business
We cannot be certain that our services, the finished products
that we deliver or materials provided to us by our clients for use in our
finished products do not or will not infringe valid patents, copyrights,
trademarks or other intellectual property rights held by third parties. As a
result, we may be subject to legal proceedings and claims from time to time
relating to the intellectual property of others in the ordinary course of our
business. We may incur substantial expenses in defending against these
third-party infringement claims, regardless of their merit. Successful
infringement claims against us may result in substantial monetary liability or
may materially disrupt the conduct of our business.
17
Because our services are often critical to our clients' operations, we may be
subject to significant claims if our services do not meet our clients
expectations
Many of our projects are critical to the operations of our
clients' businesses. If we cannot complete these projects to our clients'
expectations, we could materially harm our clients' operations. This could
damage our reputation, subject us to increased risk of litigation or result in
our having to provide additional services to a client at no charge. Although we
carry general liability insurance coverage, our insurance may not cover all
potential claims to which we are exposed or may not be adequate to indemnify us
for all liability that may be imposed.
Our stock price is likely to be highly volatile and could drop unexpectedly
The market price of our common stock is highly volatile and
may fluctuate substantially. As a result, investors in our common stock may
experience a decrease in the value of their common stock regardless of our
operating performance or prospects. In addition, the stock market has, from time
to time, experienced significant price and volume fluctuations that have
affected the market prices for the securities of technology companies. In the
past, following periods of volatility in the market price of a particular
company's securities, securities class action litigation was often brought
against that company. Many technology-related companies have been subject to
this type of litigation. We may also become involved in this type of litigation.
Litigation is often expensive and diverts management's attention and resources.
We are controlled by a small group of our existing stockholders, whose interests
may differ from other stockholders
Our directors, executive officers and affiliates currently
beneficially own approximately 41.1% of the outstanding shares of our common
stock. Accordingly, these stockholders will have significant influence in
determining the outcome of any corporate transaction or other matter submitted
to the stockholders for approval, including mergers, acquisitions,
consolidations and the sale of all or substantially all of our assets, and also
the power to prevent or cause a change in control. The interests of these
stockholders may differ from the interests of the other stockholders.
Our charter documents and Delaware law may inhibit a takeover that stockholders
may consider favorable
Provisions in our charter and bylaws may have the effect of
delaying or preventing a change of control or changes in our management that
stockholders consider favorable or beneficial. If a change of control or change
in management is delayed or prevented, the market price of our common stock
could decline.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Currency Rate Fluctuations
To date, our results of operations have not been impacted materially by
inflation in the U.S., England or The Netherlands. Although most of our revenues
and operating expenses are denominated in U.S. dollars, a percentage of our
revenues and operating expenses are earned and incurred in foreign currencies,
respectively. As a result, our revenues and expenses may be impacted by
fluctuations in these currencies and the value of these currencies relative to
the U.S. dollar. In addition, a portion of our monetary assets and liabilities
and operating expenses are held overseas. Therefore, we are exposed to foreign
currency exchange risks. However, such revenues, operating expenses, assets and
liabilities did not comprise a material portion of the Company's amounts. As a
result, we have not tried to manage our exposure to exchange rate fluctuations
by using hedging transactions. However, we may experience economic loss and a
negative impact on earnings and equity as a result of foreign currency exchange
rate fluctuations.
18
Market Risk
The Company's accounts receivable are subject, in the normal course of
business, to collection risks. The Company regularly assesses these risks and
has established policies and business practices to protect against the adverse
effects of collection risks. As a result, the Company has recorded an allowance
for doubtful accounts of approximately $881,000 and $568,000 as of September 30,
2000 and December 31, 1999, respectively.
Interest Rate Risk
The Company's investments are classified as cash and cash equivalents
with original maturities of three months or less. The Company's short-term
investments are in bonds that have fixed interest rates at the time of purchase.
Therefore, changes in the market's interest rates do not significantly affect
the carrying value of our cash equivalents or short-term investments as recorded
by the Company
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Except as set forth below, we are not a party to any material legal proceedings.
In an action entitled Art Eckert vs. Predictive Systems,
Inc., in October 1999, a former employee commenced an action against us in New
York Supreme Court (Putnam County) seeking damages for various claims relating
to his employment. The former employee is claiming damages totaling
approximately $16 million. We have filed an answer to the former employee's
claims, denying all of his material allegations and interposing several
affirmative defenses and are now conducting discovery. We believe that these
claims are without merit and intend to continue to vigorously defend ourselves
against them.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On October 27, 2000, the SEC declared effective the Registration Statement on
Form S-1, SEC Registration Number 333-84045 for our public offering of common
stock in the United States (the "Offering"). We realized net proceeds of
approximately $75.1 million from the Offering. Since that time we have not used
any of the proceeds from the Offering.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
NONE
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NONE
ITEM 5. OTHER INFORMATION
NONE
ITEM 6. EXHIBITS AND REPORT ON FORM 8-K
(a) The following exhibits are filed as part of this report:
2.1 Agreement and Plan of Reorganization, dated October 17,
2000, by and among the Registrant, Grape Acquisition
Corporation, Global Integrity Corporation and Science
Applications Corporation.
10.1 Deed of Lease, dated July 2000, between Northwest
Federal Credit Union and the Registrant.
19
10.2 Second Amendment of Lease, dated May 15, 2000,
between Polestar Fifth Property Associates LLC and
the Registrant.
27.1 Financial Data Schedule.
(b) The Company did not file any reports on Form 8-K during
the three months ended September 30, 2000.
ITEM 7. SIGNATURES
Pursuant to the requirements of the Securities Exchange Act,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PREDICTIVE SYSTEMS, INC.
(Registrant)
Date: November 14, 2000 /s/ RONALD G. PETTENGILL, JR.
-----------------------------------------
Name: Ronald G. Pettengill, Jr.
Title: Chief Executive Officer
(principal executive officer)
Date: November 14, 2000 /s/ GERARD E. DORSEY
------------------------------------------
Name: Gerard E. Dorsey
Title: Chief Financial Officer
(principal accounting and financial officer)
20