SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2001
Commission file number 0-20943
INTELLIGROUP, INC.
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(Exact Name of Registrant as Specified In Its Charter)
New Jersey 11-2880025
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
499 Thornall Street, Edison, New Jersey 08837
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(Address of Principal Executive Offices) (Zip Code)
(732) 590-1600
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(Registrant's Telephone Number,
Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class which registered
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None
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
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(Title of Class)
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:
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Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
State the aggregate market value of the voting stock held by non-affiliates
of the Registrant: $15,623,317 at March 22, 2002 based on the last sales price
on that date.
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of March 22, 2002:
Class Number of Shares
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Common Stock, $.01 par value 16,630,125
The following documents are incorporated by reference into the Annual
Report on Form 10-K: Portions of the Registrant's definitive Proxy Statement for
its 2002 Annual Meeting of Shareholders are incorporated by reference into Part
III of this Report.
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TABLE OF CONTENTS
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Item Page
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PART I 1. Business................................................... 4
2. Properties................................................. 17
3. Legal Proceedings.......................................... 17
4. Submission of Matters to a Vote of Security Holders........ 19
PART II 5. Market for the Company's Common Equity and Related
Shareholder Matters........................................ 20
6. Selected Financial Data.................................... 20
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................ 22
7A. Quantitative and Qualitative Disclosure About Market Risk.. 43
8. Financial Statements....................................... 43
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure........................ 43
PART III 10. Directors and Executive Officers of the Registrant......... 44
11. Executive Compensation..................................... 44
12. Security Ownership of Certain Beneficial Owners and
Management................................................. 44
13. Certain Relationships and Related Transactions............. 44
PART IV 14. Exhibits, List and Reports on Form 8-K..................... 45
SIGNATURES................................................................. 46
EXHIBIT INDEX.............................................................. 48
FINANCIAL STATEMENTS....................................................... F-1
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PART I
ITEM 1. BUSINESS.
GENERAL
Overview
Intelligroup, Inc. ("Intelligroup" or the "Company") provides a wide range
of high-quality, cost-effective information technology solutions and services.
These services and solutions include the development, integration,
implementation, management and support of enterprise, e-commerce and m-commerce
software applications. The Company's onsite/offshore delivery model,
comprehensive suite of tools and industry-specific solutions provide customers
with a faster time-to-market and lower total cost of ownership.
Company History
The Company was incorporated in New Jersey in October 1987 under the name
Intellicorp, Inc. to provide systems integration and custom software development
services. The Company's name was changed to Intelligroup, Inc. in July 1992. In
March 1994, the Company acquired Oxford Systems Inc. ("Oxford"). On December 31,
1996, Oxford was merged into the Company and ceased to exist as an independent
entity. In October 1996, the Company consummated its initial public offering of
its Common Stock. The Company's executive offices are located at 499 Thornall
Street, Edison, New Jersey 08837 and its telephone number is (732) 590-1600.
In 1994, the Company began to diversify its customer base by expanding the
scope of its systems integration and custom development services to include
Enterprise Resource Planning ("ERP") software. ERP software products are
pre-packaged solutions for a wide-range of business areas, including financial
information, manufacturing and human resources. For prospective customers, ERP
products are an alternative to the custom design and development of their own
applications. Although ERP products are pre-packaged solutions, there is a
significant amount of technical work involved in implementing them and tailoring
their use for a particular customer's needs.
Throughout the mid-to-late 1990s, the Company grew significantly by
capitalizing on the business opportunity to provide implementation and
customization services work to the expanding ERP market. The Company first began
to provide these technical services to customers implementing SAP software
before expanding its service offerings to include ERP products developed by
Oracle in 1995 and PeopleSoft in 1997.
In late 1999, the Company made the strategic decision to leverage its
traditional application integration and consulting experience and reposition
Intelligroup for future growth by focusing on the emerging Application Service
Provider ("ASP") market. At the same time, the Company made the strategic
decision to spin-off its Internet services business to its shareholders.
Accordingly, on January 1, 2000, the Company transferred its Internet
applications services and management consulting businesses to SeraNova, Inc.
("SeraNova"), a wholly-owned subsidiary of the Company on such date.
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On July 5, 2000, the Company distributed all of the outstanding shares of
the common stock of SeraNova then held by the Company to holders of record of
the Company's common stock as of the close of business on May 12, 2000 (or to
their subsequent transferees) in accordance with the terms of a Distribution
Agreement dated as of January 1, 2000 between the Company and SeraNova.
Accordingly, the assets, liabilities and results of operations of SeraNova have
been reported as discontinued operations for all periods presented.
During the second half of 2000, finding that the market for ASP services
had not developed and grown as projected by market analysts, the Company
significantly reduced its investment in the ASP business model. Expenditures for
marketing and direct selling initiatives were significantly decreased, as were
the infrastructure and personnel that supported the Company's ASP services. The
Company renewed it focus and efforts on pursuing shorter-term success
opportunities of implementing and enhancing application solutions based on SAP,
Oracle and PeopleSoft products.
At the same time, the Company redirected some of its ASP infrastructure and
personnel towards the management and support of customers' enterprise,
e-commerce and m-commerce applications ("Application Management Services").
Additionally, the Company introduced certain SAP-based proprietary tools that
are designed to reduce the time and cost of upgrading and maintaining SAP
systems. Finally, in 2001, the Company developed pre-configured SAP solutions
for the pharmaceutical industry ("Pharma Express(SM)") and the engineering and
construction industry ("Contractor Express(SM)"). Pharma Express, a solution
designed for small-to-medium sized life sciences companies, improves
manufacturing efficiencies and helps control the total cost of production.
Contractor Express assists companies in improving operational efficiency and
controlling manufacturing project schedules.
INTELLIGROUP SERVICES
Intelligroup provides a wide range of information technology solutions and
services. These services and solutions include the development, integration,
implementation, management and full lifecycle support of enterprise, e-commerce
and m-commerce applications to companies of all sizes.
Historically, the Company's services have ranged from providing customers
with a single consultant to multi-personnel full-scale projects. The Company
provides these services to its customers primarily on a time and materials basis
and pursuant to agreements, which are terminable upon relatively short notice.
During 2000, the Company began to focus on providing management and support
services for their customers' applications. The contractual arrangements in
these situations are typically fixed term, fixed price and multi-year, as is
common in the outsourcing market. The Company's focus on management and support
services is also intended to encourage ongoing and recurring service
relationships, rather than one-time implementation engagements.
Professional Consulting Services
The Company's professional consulting services ("PCS") utilize technical
and functional consultants to leverage the Company's expertise in ERP
architecture and systems integration, and
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to efficiently assimilate and customize these applications with new e-commerce
and m-commerce applications and extensions. The Company believes that its
expertise in a wide variety of technologies, coupled with its ability to provide
comprehensive business process solutions and timely and cost-effective
implementation of new business systems, enables its customers to achieve
substantial improvements in efficiency and effectiveness in their businesses,
and fosters long-term customer relationships.
Intelligroup has cultivated strong working relationships with SAP, Oracle
and PeopleSoft. These companies have a vested interest in encouraging third
party professional consulting service companies, such as Intelligroup, to
provide implementation and customization services to customers. These software
vendors have established formal programs, which are designed to recruit and
authorize third party service companies as service partners. Companies wishing
to become authorized partners must meet performance criteria established by the
respective ERP vendor. They are then allowed to use the vendor's partner
designation and associated logo to promote their own services. The ERP product
vendors also promote these authorized partners to customers and prospective
customers of their ERP products. The Company believes that such partner status
with the ERP vendors has and will continue to result in direct referrals and
enhanced industry recognition.
In 1995, the Company achieved the status of a "SAP National Implementation
Partner." In 1997, the Company enhanced its partnership status with SAP, by
first achieving "National Logo Partner" status and then "AcceleratedSAP Partner"
status. In July 1997, the Company was awarded "PeopleSoft Implementation
Partnership" status. In June 1998, the Company expanded its Oracle applications
implementation services practice and added upgrade services to meet market
demand of mid to large size companies that were implementing or upgrading Oracle
applications. In 2000, the Company achieved "SAP Services Partner" status and
"SAP Hosting Partner" for the pharmaceuticals industry vertical status. Finally,
in 2001, the Company's pharmaceutical template for small and medium-size
businesses market (covering cGMP processes and validation standards) was
certified by SAP America.
As a result of the Company's experience in implementing ERP software, the
Company has developed a proprietary methodology and associated toolset for
implementing enterprise business software applications. The toolset also
contains a project management and tracking tool, which the Company utilizes to
monitor implementation projects undertaken for customers. The Company believes
that its methodology and toolset may enable its customers to realize significant
savings in time and resources. Furthermore, the Company believes that use of the
methodology and toolset also shortens the turn-around time for program
development, as it streamlines the information flow between the Company's
offices and customer sites.
Additionally, the Company has introduced certain SAP-based proprietary
tools that are designed to reduce the time and cost of upgrading and maintaining
SAP systems ("Power Up Services(SM)"). Through its Power Up Services, the
Company helps to cost-effectively size and analyze SAP upgrade projects, and
efficiently evaluate and test SAP Support Packages. The Company combines the
assessment capabilities of its proprietary Uptimizer(SM) Tool Kit with the
skills and expertise of its SAP-certified global implementation team to deliver
high-quality, cost-effective upgrades to customized SAP environments. HotPac
Analyzer(SM) enables customers to analyze and test the impact of a Support
Package on its own SAP production environment before
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it is actually applied. In addition, HotPac Analyzer enables customers to
validate the overall impact that a Support Package can have and isolate and
identify the business transactions that require thorough testing.
In 2001, the Company developed Pharma Express and Contractor Express.
Pharma Express is a ready-to-run, fully integrated pharmaceutical solution that
enables pharmaceutical companies of all sizes to improve the efficiency of their
manufacturing process to effectively control the cost-of-production and
distribution while keeping the production environment cGMP-compliant. Pharma
Express incorporates SAP Best Practices for the highly regulated pharmaceutical
industry and seamlessly integrates order management, process manufacturing,
quality management, inventory and distribution and financials. Contractor
Express is a ready-to-run, fully integrated industry solution that enables
engineering and construction companies of all sizes to improve their operational
efficiency and to effectively control project schedules and manage the costs and
resources associated with construction projects. Contractor Express incorporates
SAP Best Practices for the engineering and construction industry and seamlessly
integrates order management, procurement, project systems, plant maintenance,
asset management, human resources, financials and project costing.
The Company's Advanced Development Center ("ADC"), located in Hyderabad,
India, allows the Company to provide cost-effective, timely and high quality PCS
services to customers throughout the world. The ADC delivers rapid, 24 by 7
development services, by utilizing its functional and technical consultants, in
conjunction with on-site consultants at customer locations, to provide customers
with savings in development and implementation costs and faster time to project
completion. Intelligroup is able to deliver high value services at attractive
prices due to: (i) the high level of expertise and experience of ADC consultant
programmers; (ii) the rigorous application of the Company's proprietary software
project methodologies, tools and project management disciplines; and (iii) the
cost structures associated with the ADC's offshore location.
The Company provides PCS services directly to end-user organizations, or as
a member of consulting teams assembled by other information technology
consulting firms. The cumulative number of PCS customers billed by the Company
has grown substantially from 600 customers in 1999 to over 900 customers in
2001. The Company's customers are primarily Fortune 1000 and other large and
mid-sized companies in the United States and abroad. They have included Apple
Vacations, Bristol-Myers Squibb, Detroit Public Schools, Eastman Chemical
Company, Lockheed Martin, Network Associates and Whirlpool. The Company has also
participated in project teams lead by information technology consulting firms
such as Cap Gemini Ernst & Young LLP and KPMG Consulting.
Application Management Services
The Company's application management services ("AMS") provide clients with
management, support and maintenance of their enterprise, e-commerce and
m-commerce applications. These services are provided using the Company's low
cost, high quality onsite/offshore delivery model, which allows the Company to
aggressively compete for long term fixed price/fixed time contracts.
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Key to the Company's ability to deliver AMS services is its offshore Global
Support Center ("GSC"), located in Hyderabad, India, which helps to provide
responsive global support to customers through delivery teams that work
around-the-clock. The GSC keeps customers' critical applications, systems and
infrastructure stable, current and optimized through efficient and
cost-effective user, technical and operations support. Intelligroup is able to
deliver high value services at attractive prices due to: (i) the high level of
expertise and experience of GSC support professionals; and (ii) the cost
structures associated with the GSC's offshore location.
The Company provides its AMS services directly to end-user organizations.
The cumulative number of AMS customers billed by the Company has grown
substantially from three customers in 1999 to 24 customers in 2000 to over 30
customers in 2001. The Company's customers are primarily Fortune 1000 and other
large and mid-sized companies in the United States and abroad. They have
included Armacell International GmbH, Dade Behring, GE Fanuc Automation North
America, Jetstream Communications, Joy Mining Machinery and Pearsons Technology
Centre.
ASP Hosting Services
The Company services the ASP market with its ASPPlus Solutions, which
include implementation, management and hosting of enterprise, e-commerce and
m-commerce solutions. ASPPlus utilizes a mass customization approach, providing
pre-configured vertical industry solutions of mission critical applications.
Through ASPPlus, the Company offers customized solutions to its client's
specific enterprise, e-commerce and m-commerce needs.
To provide the global infrastructure on which we deliver and support
solutions for customers worldwide, Intelligroup became a founding Platinum
member of AT&T's Ecosystem for ASPs. As our strategic partner and infrastructure
provider, AT&T provides the data center, hardware and operating systems, and
requisite bandwidth and communications capabilities.
THE INTELLIGROUP SOLUTION
Intelligroup improves its clients' business performance, through the
intelligent application of information technology. We deliver to our clients
timely, cost-effective and innovative professional consulting services and
application management and support solutions by combining our:
Proven Offshore Development and Maintenance Model: The Company has the
ability to develop, implement and maintain high-quality, low cost business
solutions through its offshore ADC and GSC. In May 2000, the ADC was awarded
Level 2 of the People Capability Maturity Model(R) by the Carnegie Mellon
Software Engineering Institute ("CMM-SEI"). The achievement recognizes
Intelligroup for its ability to attract, develop, motivate, organize and retain
the talent needed to continuously improve its software development capability.
Intelligroup was among the first in the IT industry to integrate CMM-SEI
workforce improvement with software process improvement, for which we have
achieved the Software CMM-SEI Level 5 certification for continuous improvement
of our software engineering. In addition, we are ISO 9001-certified for software
development, support and optimization.
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The ADC and GSC are connected to the Company's operations centers in
Asia/Pacific, the United States and Europe via high-speed satellite links. The
ADC and GSC operate on a 24x7 basis, allowing next business day turn-around of
work units to customers. The Centers' quality processes, skilled development and
support teams, and low cost of operation allow the Company to aggressively
compete for implementation and maintenance contracts. As the Company expands,
the ADC and GSC are prepared to undertake projects in any of the three
enterprise and e-commerce practices (SAP, PeopleSoft and Oracle), as well as
certain other advanced technologies, including m-commerce.
Expertise in a Wide Range of Technologies, Industries and Disciplines: The
Company's consultants have expertise with SAP, Oracle and PeopleSoft products
and with a wide variety of leading computing technologies, including Internet,
client/server architectures, object-oriented technologies, CASE, distributed
database management systems, mainframe connectivity, LAN/WAN and
telecommunications technologies. The Company believes that its personnel are
effective because of their technical excellence, their industry experience and
their strong grounding in the disciplines of project implementation and
management.
Customer-Driven Approach: The Company's project managers and consultants
maintain on-going communication and close interaction with customers to ensure
that they are involved in all facets of a project and that the solutions
designed and implemented by the Company meet the customer's needs. The Company's
goal is to provide training to its customers during a project to achieve high
levels of self-sufficiency among its customers' end users and internal
information technology personnel. The Company believes that its ability to
deliver the requisite knowledge base to its customers is critical to fostering
long-term relationships with, and generating referrals from, existing customers.
Proprietary Methodologies: The Company has developed a proprietary
implementation methodology, as well as a software-based implementation toolset,
which are designed to minimize the time required to develop and implement SAP,
Oracle and PeopleSoft solutions for its customers.
Proprietary Toolsets: The Company has developed proprietary SAP toolsets
that reduce the cost and time of keeping an SAP environment stable and current.
The Company's Power Up Services are designed to size and analyze an upgrade
project and evaluate and test SAP Support Packages.
TRADEMARKS AND SERVICE MARKS
"Intelligroup," the Intelligroup logo and "Creating the Intelligent
Enterprise" are all trademarks of the Company.
"Power Up Services", "Uptimizer", "HotPac Analyzer", "Pharma Express",
"Contractor Express", "4Sight", "4Sight Plus", "EZ Path", "Implementation
Assistant", "myADVISOR" and "ASPPlus" are service marks of the Company.
"Empower Solutions" is a service mark of Empower Solutions, a subsidiary of
the Company.
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All other trade names, trademarks or service marks referenced herein are
the property of their respective owners and are not the property of the Company.
SAFE HARBOR STATEMENTS
This Form 10-K contains forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended, including,
without limitation, statements regarding the Company's intention to shift more
of its focus towards the management and support of customers' enterprise,
e-commerce and m-commerce applications. Such forward-looking statements include
risks and uncertainties, including, but not limited to:
o the continued uncertainty associated with the slowdown in economies
worldwide, including its impact on IT spending habits by customers;
o the continued uncertainty of the outsourcing market and revenues
derived from anticipated application management and support business;
o the failure to maintain the minimum bid price of $1.00 per share for a
period of 30 consecutive business days or other criteria as required
for continued listing by the Nasdaq National Market;
o the substantial variability of the Company's quarterly operating
results caused by a variety of factors, many of which are not within
the Company's control, including (a) patterns of software and hardware
capital spending by customers, (b) information technology outsourcing
trends, (c) the timing, size and stage of projects, (d) timing and
impact of acquisitions, (e) new service introductions by the Company
or its competitors and the timing of new product introductions by the
Company's ERP partners, (f) levels of market acceptance for the
Company's services, (g) general economic conditions, (h) the hiring of
additional staff and (i) fixed price contracts;
o changes in the Company's billing and employee utilization rates;
o the Company's ability to manage its business effectively, which will
require the Company (a) to continue developing and improving its
operational, financial and other internal systems, as well as its
business development capabilities, (b) to attract, train, retain,
motivate and manage its employees, (c) to continue to maintain high
rates of employee utilization at profitable billing rates, (d) to
successfully integrate the personnel and businesses acquired by the
Company, and (e) to maintain project quality, particularly if the size
and scope of the Company's projects increase;
o the Company's ability to maintain an effective internal control
structure;
o the Company's limited operating history within the outsourcing line of
business;
o the Company's reliance on continued relationships with SAP America,
Oracle and PeopleSoft, and the Company's present partnership status;
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o the Company's substantial reliance on key customers and large
projects;
o the highly competitive nature of the markets for the Company's
services;
o the Company's ability to successfully address the continuing changes
in information technology, evolving industry standards and changing
customer objectives and preferences;
o the Company's reliance on the continued services of its key executive
officers and leading technical personnel;
o the Company's ability to attract and retain a sufficient number of
highly skilled employees in the future;
o the Company's ability to protect its intellectual property rights;
o uncertainties resulting from pending litigation matters and from
potential administrative and regulatory immigration and tax law
matters and from the outstanding liability of SeraNova to the Company
under the promissory note dated May 31, 2000, as amended; and
o in addition, in March 2001, SeraNova and Silverline Technologies
Limited ("Silverline") consummated the acquisition of SeraNova by
Silverline. SeraNova's management has represented that such
acquisition was not contemplated at the time of the spin-off of
SeraNova by the Company, and accordingly should not impact the
tax-free nature of the spin-off. Should the spin-off be ultimately
construed to be taxable, there is a risk that if SeraNova and/or
Silverline are unable or unwilling to pay the resultant tax liability
pursuant to SeraNova's indemnification obligations under its Tax
Sharing Agreement with the Company, the Company would bear the
liability to pay such resultant tax liability.
As a result of these factors and others, the Company's actual results may
differ materially from the results disclosed in such forward-looking statements.
INDUSTRY BACKGROUND
Many businesses face a rapidly changing business environment, including
intense global competition, accelerating technological change, and the need to
embrace emerging web commerce and procurement strategies. Such businesses
continually seek to improve the quality of products and services, lower costs,
reduce cycle times, optimize their supply chain and increase value to customers.
As a result, many businesses implement and utilize advanced information
solutions, which enable them to redesign their business processes in such areas
as product development, service delivery, manufacturing, sales and human
resources.
Historically, many businesses have adopted information systems strategies
using client/server architectures based on personal computers, local area
network/wide area network ("LAN/WAN"), shared databases and packaged software
applications. Frequently these
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strategies are intended to replace legacy systems, which are often
mainframe-based, running proprietary software and applications. Such
client/server systems, when developed and implemented appropriately, enable the
creation and utilization of more functional, flexible and cost effective
applications, which are critical to the competitive needs of businesses.
As part of their client/server strategies, organizations often acquire, or
consider acquisition of, packaged enterprise-wide business software
applications, including those offered by leading ERP vendors, such as SAP,
Oracle and PeopleSoft. These applications are then implemented or customized to
meet their particular business needs. Alternatively, the organizations may
develop, or commission the development of, customized software applications to
meet their needs. In both cases, these customers now have a set of core
operations applications, which they use to support their central business
processes. These customers may now face competing internal demands against their
budgets and resources. The customers must balance demands from their user
departments for new, innovative business applications against the absolute
requirement to maintain, manage and optimize the core operations applications.
These competing demands reflect areas of potential business opportunity for the
Company.
Intense competitive and market pressures continue to force many
organizations to look for improvements in the quality, efficiency and
responsiveness of their end-to-end business models. This would normally require
an in-depth analysis of their business strategies, operational processes and
supporting delivery mechanisms, including information systems. Customers will
sometimes retain external business and management consulting organizations to
assist with this analysis and the preparation of relevant recommendations.
The majority of customers who have implemented, or are implementing, ERP
solutions have been Fortune 2000 companies. The Company believes that
opportunities for new ERP implementations will continue to exist in this
segment, as these companies deploy ERP solutions to subsidiaries and operating
units. In addition, these customers are also faced with the need to manage and
maintain their ERP applications. The Company believes that there is significant
potential business opportunity for implementing ERP version-to-version upgrades
as well as application management and support services.
Because of the ERP penetration of Fortune 2000 customers, the marketing
focus of the ERP vendors has turned toward mid-market clients. The mid-market
segment presents the most opportunity for new ERP product sales and
implementations. Many of these companies are growing rapidly and are likely to
have the need for core financial and other operations systems that can be
addressed by ERP products. The Company believes that opportunity exists for both
professional consulting services and application management services to
mid-market clients. This segment is very cost conscious and requires a highly
efficient services delivery model, which the Company believes it can provide
through a combination of on-site services and offshore services through its
support centers in Hyderabad, India.
The task of developing and implementing enterprise-wide, mission-critical,
information solutions is complex. It presents significant challenges for most
customer organizations and can be a time consuming and costly undertaking, which
typically requires significant allocation of organizational resources.
Information technology managers must integrate and manage information systems
environments consisting of multiple computing platforms, operating
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systems, databases and networking protocols, as well as multiple packaged and
custom developed applications.
Companies must also continually keep pace with a broad and often confusing
array of new technological developments, which can render internal information
technology skills obsolete. Professionals with the requisite technology skills
often are in short supply and many organizations are reluctant to expand their
internal information systems department for particular projects. At the same
time, external economic factors encourage organizations to focus on their core
competencies and trim work forces in the information technology management area.
Accordingly, organizations often lack sufficient, and/or appropriate, technical
resources necessary to design, develop, implement and manage the information
technology solutions needed to support their business needs.
To support their information technology needs, many businesses increasingly
engage experienced outside specialists for assistance across the full life cycle
of their solutions. Because of the heightened business pressures they face,
these customers are demanding innovative solutions, in shorter timeframes, with
lower life cycle cost of ownership, at higher levels of quality and service, all
with lower risk to themselves and their businesses.
As a result of these industry dynamics, demand for information technology
services has grown significantly. It has moved from an implementation focus to
one addressing an integrated view of corporate business and information
processes. Such demand has also moved to a focus on value-based pricing and cost
of ownership over the total life cycle of the solution. These changes favor
services companies which can provide high quality, low cost life cycle services,
and which address high value solution areas for clients' businesses.
SALES AND MARKETING
The Company historically has generated new sales leads from (i) referrals
from existing customers, (ii) introductions to potential customers by the
Company's alliance partners, which often need to recommend qualified systems
integrators to implement or enhance their software products, and (iii) internal
sales efforts. In addition, the Company has been introduced to customers by
certain of its competitors, such as the consulting practices of "Big Five"
accounting firms, which at times use the Company's expertise and ability to
deliver qualified personnel for complex projects.
The Company has dedicated an increased level of resources to sales and
marketing efforts. The Company will continue to market to potential customers
with demonstrated needs for the Company's expertise in ERP solutions. The
Company intends to implement focused sales management programs, to leverage its
relationships with existing customers, as well as those with ERP and other
product vendors.
Among its sales and marketing efforts, the Company's has exhibited and
presented the Company's expertise at trade events associated with the primary
ERP offerings. These include events such as SAPPHIRE, the annual SAP conference
for SAP service providers and end-users, the Americas SAP User Group, the Oracle
Americas User Group and the PeopleSoft Users
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Group. The Company intends to continue participation in such industry-recognized
programs and trade shows.
Most importantly, however, the Company believes that satisfying customer
expectations within budgets and time schedules is critical to gaining repeat
business and obtaining new business from referrals. The Company believes that it
has consistently met customer expectations with respect to budgets and time
schedules.
The Company's services require a substantial financial commitment by
customers and, therefore, typically involve a long sales cycle. Once a lead is
generated, the Company endeavors to understand quickly the potential customer's
business needs and objectives in order to develop the appropriate solution and
bid accordingly. The Company's project managers are involved throughout the
sales cycle to ensure mutual understanding of customer goals, including time to
completion, and technological requirements. Sales cycles for complex business
solutions projects typically range from one to six months from the time the
Company initially meets with a prospective customer until the customer decides
whether to authorize commencement of an engagement.
As of December 31, 2001, the Company's sales and marketing group consisted
of 29 employees in the United States, 5 employees in the Asia-Pacific region, 5
employees in Europe, and 10 employees in India. The Company markets and delivers
its services to customers on an international basis through its network of
offices. The Company's headquarters in New Jersey and its branch offices in
Atlanta, GA; Rosemont, IL and Foster City, CA serve the United States market. In
addition, the Company also maintains offices in Europe (Denmark, Sweden and the
United Kingdom) and Asia Pacific (Australia, Hong Kong, India, Indonesia, Japan,
New Zealand and Singapore).
CUSTOMERS
The Company provides its services directly to many Fortune 2000 companies,
as well as small to medium sized enterprises, or as a member of consulting teams
assembled by other information technology consultants, such as the consulting
practices of "Big Five" accounting firms. The cumulative number of customers
billed by the Company has grown substantially from 600 customers in 1999 to over
900 customers in 2001.
In 1999, 2000 and 2001, 48%, 36% and 42%, respectively, of the Company's
revenue was generated by serving as a member of consulting teams assembled by
other information technology consulting firms. The Company's ten largest
customers accounted for, in the aggregate, approximately 43%, 34% and 33% of its
revenue in 1999, 2000 and 2001, respectively. During 1999 and 2000, one customer
accounted for more than 10% of total revenue. During 2001, no single customer
accounted for more than 10% of total revenue.
During 1999 and 2000, one customer in the United States accounted for more
than 10% of the total revenue generated in the United States. During 2001, no
single customer in the United States accounted for more than 10% of total
revenue generated in the United States.
During 1999, no single customer in Asia-Pacific accounted for more than 10%
of total revenue generated in the Asia-Pacific region. During 2000, one customer
in Asia-Pacific
- 14 -
accounted for more than 10% of total revenue generated in the Asia-Pacific
region. During 2001, two customers in Asia-Pacific accounted for more than 10%
of total revenue generated in the Asia-Pacific region.
During 1999 and 2000, no single customer in Europe accounted for more than
10% of total revenue generated in the European region. During 2001, one customer
in Europe accounted for more than 10% of total revenue generated in the European
region.
During 1999, 2000 and 2001, no single unaffiliated customer in India
accounted for more than 10% of total revenue generated in India. A majority of
the total revenue generated in India is derived from providing offshore
development and support services to customers sourced through the Company's
affiliated entities.
Although the Company has contracts with many of its customers to provide
its services, in general such contracts are terminable upon relatively short
notice, typically not more than 30 days. When providing application management
and support services for customers, the Company expects to compete for
multi-year fixed term, fixed price contracts. There can be no assurance that the
Company's customers will continue to enter into contracts with the Company or
that existing contracts will not be terminated.
Many of the Company's engagements involve projects that are critical to the
operations of its customers' businesses and provide benefits that may be
difficult to quantify. The Company's failure or inability to meet a customer's
expectations in the performance of its services could result in a material
adverse change to the customer's operations giving rise to claims for damages
against the Company or causing damage to the Company's reputation, adversely
affecting its business, financial condition and results of operations. In
addition, certain of the Company's agreements with its customers require the
Company to indemnify the customer for damages arising from services provided to,
or on behalf of, such customer. Under certain of the Company's customer
contracts, the Company warrants that it will repair errors or defects in its
deliverables without additional charge to the customer. The Company has not
experienced, to date, any material claims against such warranties. The Company
has purchased and maintains errors and omissions insurance to insure the Company
for damages and expenses incurred in connection with alleged negligent acts,
errors or omissions.
COMPETITION
The markets for the Company's services are highly competitive. The Company
believes that its principal competitors include the internal information systems
groups of its prospective customers, as well as the following classes of
companies (some of which are also customers or referral sources of the Company):
o Consulting and software integration firms: including, IBM Global
Services, Electronic Data Systems (EDS), Computer Sciences Corporation
(CSC), Cap Gemini Ernst & Young (CGE&Y), Deloitte Consulting, KPMG
Consulting and PwC Consulting.
o Software applications vendors: SAP, Oracle and PeopleSoft.
- 15 -
o Application management consulting firms: such as Covansys, Wipro
Technologies, Infosys Technologies Limited, and Satyam Computer
Services Ltd.
o Application service providers: USinternetworking, Inc., Corio, Inc.,
Interliant, Inc., and Agilera, Inc.
Many of the Company's competitors have longer operating histories, possess
greater industry and name recognition and/or have significantly greater
financial, technical and marketing resources than the Company. In addition,
there are relatively low barriers to entry into the Company's markets and the
Company has faced, and expects to continue to face, additional competition from
new entrants into its markets.
The Company believes that the principal competitive factors in its markets
include quality of service and deliverables, speed of development and
implementation, price, project management capability and technical and business
expertise. The Company believes that its ability to compete also depends in part
on a number of competitive factors outside its control, including the ability of
its competitors to hire, retain and motivate project managers and other senior
technical staff, the development by others of services that are competitive with
the Company's services and the extent of its competitors' responsiveness to
customer needs.
The Company believes that it competes based on its expertise across the
full life cycle of its clients' ERP solutions. This expertise includes
management consulting skills, plus design and implementation skills in ERP
products (primarily SAP, PeopleSoft and Oracle), application integration and
application management and support related to those solutions. There can be no
assurance that the Company will be able to continue to compete successfully with
existing and new competitors.
EMPLOYEES
As of December 31, 2001, the Company employed 1,238 full-time employees, of
whom 997 were engaged as consultants or as software developers, 49 were engaged
in sales and marketing, and 192 were engaged in delivery management, finance and
administration. Of the total number of employees, 414 were based in the United
States, 120 were based in the Asia-Pacific region, 74 were based in Europe and
630 were based in India. In addition, the Company engaged 46 independent
contractors to perform information technology services.
None of the Company's employees are covered by a collective bargaining
agreement. Substantially all of the Company's employees have executed employment
agreements containing non-competition, non-disclosure and non-solicitation
clauses. In addition, the Company requires that all new employees execute such
agreements as a condition of employment by the Company. The Company believes
that it has been successful in attracting and retaining skilled and experienced
personnel. There is increasing competition for experienced sales and marketing
personnel and technical professionals. The Company's future success will depend
in part on its ability to continue to attract, retain, train and motivate highly
qualified personnel. The Company considers relations with its employees to be
good.
- 16 -
INTELLECTUAL PROPERTY RIGHTS
The Company's success is dependent, in part, upon its proprietary
implementation methodology, development tools and other intellectual property
rights. The Company relies upon a combination of trade secret, non-disclosure
and other contractual arrangements, and copyright and trademark laws, to protect
its proprietary rights. The Company generally enters into confidentiality
agreements with its employees, consultants and customers, and limits access to
and distribution of its proprietary information. The Company also requires that
substantially all of its employees and consultants assign to the Company their
rights in intellectual property developed while employed or engaged by the
Company. There can be no assurance that the steps taken by the Company in this
regard will be adequate to deter misappropriation of its proprietary information
or that the Company will be able to detect unauthorized use of and take
appropriate steps to enforce its intellectual property rights.
ITEM 2. PROPERTIES.
As of December 31, 2001, the Company owns no real property and currently
leases or subleases all of its office space. The Company leases 48,475 square
feet of office space in Edison, New Jersey, of which approximately 50% is
subleased to SeraNova. Such lease has an initial term of ten (10) years, which
commenced in September 1998. The Company uses such facility for certain
technical and support personnel, sales and marketing, administrative, finance
and management personnel. The Company maintains offices for its sales and
operations within the United States in Atlanta, GA; Rosemont, IL and Foster
City, CA. The Company also maintains offices in Australia, Denmark, Hong Kong,
India, Indonesia, Japan, New Zealand, Singapore, Sweden and the United Kingdom.
Additionally, the Company remains an obligor on certain leases for office space
located in Phoenix, AZ and Auburn Hills, MI, under which only SeraNova occupies
such office space. Such leases expire in October 2003 and February 2005,
respectively.
Beginning in late 2001, SeraNova failed to pay certain outstanding lease
obligations to the Company's landlords. The Company was unable to resolve these
payment defaults through direct negotiations with SeraNova and Silverline
Technologies. Accordingly, on March 4, 2002, the Company filed an arbitration
demand with the American Arbitration Association against SeraNova and Silverline
Technologies. The demand for arbitration seeks reimbursement from SeraNova
and/or Silverline Technologies for all rent payments made by the Company on
behalf of SeraNova and for jurisdiction over further payment defaults by
SeraNova and/or Silverline Technologies to the Company and its landlords (see
Part I, Item 3, Legal Proceedings).
ITEM 3. LEGAL PROCEEDINGS
On February 7, 2001, NSA Investments II LLC filed a complaint in the United
States District Court for the District of Massachusetts naming, among others,
SeraNova, the Company and Rajkumar Koneru, a director of the Company, as
defendants. The plaintiff alleges that it invested $4,000,000 in SeraNova as
part of a private placement of SeraNova common stock in March 2000, prior to the
spin-off of SeraNova by the Company. The complaint, which seeks compensatory and
punitive damages, alleges that the Company, as a "controlling person" of
SeraNova, is jointly and severally liable with and to the extent as SeraNova for
false and
- 17 -
misleading statements constituting securities laws violations. After being
served with the complaint, the Company made a request for indemnification from
SeraNova pursuant to the various inter-company agreements in connection with the
spin-off. By letter dated April 13, 2001, SeraNova's counsel, advised the
Company that SeraNova acknowledged liability for such indemnification claims and
has elected to assume the defense of the plaintiff's claims. In October 2001,
the motion to dismiss, filed on behalf of the Company in May 2001, was denied
without prejudice to refile at the close of the discovery period. Court-ordered
mediation between the plaintiff and SeraNova during January and February 2002
was unsuccessful. In January 2002, plaintiff filed a motion for partial summary
judgment as to certain claims against SeraNova. No summary judgment motion was
filed against the Company. SeraNova filed its opposition to plaintiff's motion
for partial summary judgment in February 2002. Such motion for partial summary
judgment is expected to be heard in April. The Company denies the allegations
made and intends to defend vigorously the claims made by the plaintiff. It is
too early in the dispute process to determine the impact, if any, that such
dispute will have upon the Company's business, financial condition or results of
operations.
On May 21, 2001, Fe-Ri Construction, Inc. filed a complaint in the United
States District Court for the District of Puerto Rico naming the Company as
defendant. The complaint, which seeks damages, alleges among other things, that
the Company has failed to pay plaintiff amounts due under a construction
contract totaling $558,852 together with interest and costs, damage to
plaintiff's reputation and impairment of plaintiff's bonding capacity.
Subsequently, the Company commenced an arbitration action asserting claims
against plaintiff. On December 21, 2001, the Company, Fe-Ri Construction and the
Puerto Rico Industrial Development Company settled the litigation and
arbitration claims by executing a Settlement Agreement and Mutual Release.
Pursuant to the terms of the Settlement Agreement and Mutual Release, Fe-Ri
Construction received a one-time lump sum payment of $600,000 and all parties
released each other from any and all claims.
On August 16, 2001, the Company filed a complaint in the Superior Court of
New Jersey, Middlesex County, against SeraNova, Inc. and Silverline Technologies
Limited, which acquired SeraNova in March 2001. The complaint, which seeks
damages, alleges among other things that SeraNova failed to pay amounts owing
under (i) an unsecured promissory note totaling $10,079,717, and (ii) a system
implementation project totaling $511,573. On September 25, 2001, SeraNova and
Silverline filed a joint Answer to the Company's complaint. In addition,
SeraNova filed a counterclaim against the Company for unspecified damages as a
set-off against the Company's claims. Thereafter, in response to the Company's
request for a statement of damages, SeraNova stated that it was in the process
of calculating its damages, but for informational purposes claimed compensatory
damages in excess of $5,500,000 and punitive damages in the amount of
$10,000,000. The parties are currently proceeding with the discovery process.
The Company believes that there is no basis to support the amounts claimed by
SeraNova in its counterclaim for compensatory and punitive damages. The
inability of the Company to collect the full amount due from SeraNova and/or
Silverline or an adverse decision with respect to the Company relating to
SeraNova's counterclaim could negatively affect the Company's business,
financial condition or results of operations.
On March 4, 2002, the Company filed an arbitration demand with the American
Arbitration Association against SeraNova, Inc. and Silverline Technologies. The
demand for
- 18 -
arbitration, which seeks damages, alleges among other things that respondents
failed to pay outstanding lease obligations to the Company's landlords and to
reimburse the Company for all rent payments made by the Company on behalf of the
respondents. As of the date the arbitration demand was filed, the Company
claimed that the outstanding lease obligations totaled $236,010. The Company is
further seeking jurisdiction over further payment defaults by the respondents to
the Company and its landlords. The Company does not believe that the outcome of
this claim will have a materially adverse effect on the Company's business,
financial condition or results of operations.
There is no other material litigation pending to which the Company is a
party or to which any of its property is subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
- 19 -
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS.
The Common Stock is quoted on the Nasdaq National Market (the "NNM") under
the symbol "ITIG." The following table sets forth, for each of the periods
indicated, the high and low sale prices per share of Common Stock as quoted on
the NNM. The prices shown represent quotations among securities dealers, do not
include retail markups, markdowns or commissions and may not represent actual
transactions.
Quarter Ended High Low
------------------- -------------- -------------
March 31, 2000 $ 45 3/4 $ 19 9/16
June 30, 2000 $ 29 1/2 $ 7 1/4
September 30, 2000 $ 14 1/4 $ 1 7/16
December 31, 2000 $ 3 1/8 $ 25/32
March 31, 2001 $ 2 7/32 $ 25/32
June 30, 2001 $ 1 1/2 $ 25/32
September 30, 2001 $ 1 1/16 $ 21/32
December 31, 2001 $ 1 3/16 $ 25/32
As of March 27, 2002, the approximate number of holders of record of the
Common Stock was 74 and the approximate number of beneficial holders of the
Common Stock was 3,052.
The Company has never declared or paid any dividends on its capital stock.
The Company intends to retain any earnings to fund future growth and the
operation of its business, and, therefore, does not anticipate paying any cash
dividends in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA.
The selected statement of operations data for the years ended December 31,
1999, 2000 and 2001 and the selected balance sheet data as of December 31, 2000
and 2001 are derived from, are qualified by reference to, and should be read in
conjunction with, the more detailed audited consolidated financial statements
and the related notes thereto included elsewhere herein. The selected statement
of operations data for the year ended December 31, 1997 and 1998 and the
selected balance sheet data as of December 31, 1997, 1998 and 1999 have been
derived from audited consolidated financial statements of the Company, which are
not included elsewhere herein.
- 20 -
The following should be read in conjunction with the consolidated financial
statements and notes thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" appearing elsewhere herein:
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------------------------------
1997 1998 1999 2000 2001
-------- --------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Revenue........................................ $ 90,607 $ 147,462 $ 146,272 $ 112,838 $ 108,106
Cost of sales.................................. 63,534 96,024 97,382 75,444 72,984
-------- --------- --------- --------- ---------
Gross profit................................ 27,073 51,438 48,890 37,394 35,122
-------- --------- --------- --------- ---------
Selling, general and administrative expenses... 18,816 32,364 42,822 45,191 33,901
Acquisition expenses........................... -- 1,397 2,115 -- --
Restructuring and other special charges........ -- -- 7,328 -- 13,261
-------- --------- --------- --------- ---------
Total operating expenses.................... 18,816 33,761 52,265 45,191 47,162
-------- --------- --------- --------- ---------
Operating income (loss)..................... 8,257 17,677 (3,375) (7,797) (12,040)
Other income (expenses), net................... 252 206 (513) 570 39
-------- --------- --------- --------- ---------
Income (loss) from continuing operations
before income taxes.......................... 8,509 17,883 (3,888) (7,227) (12,001)
Provision (benefit) for income taxes........... 2,173 3,852 1,441 (573) 592
-------- --------- --------- --------- ---------
Income (loss) from continuing operations....... 6,336 14,031 (5,329) (6,654) (12,593)
Income (loss) from discontinued operations,
net of income tax expense (benefit) of $154,
$599, $(235), $(2,095) and $0................ 2 (631) (1,261) (4,891) --
-------- --------- --------- --------- ---------
Net income (loss)......................... $ 6,338 $ 13,400 $ (6,590) $ (11,545) $ (12,593)
======== ========= ========= ========= =========
Earnings per share
Basic earnings per share:
Continuing operations..................... $ 0.43 $ 0.91 $ (0.34) $ (0.40) $ (0.76)
Discontinued operations................... -- (0.04) (0.08) (0.30) --
-------- --------- --------- --------- ---------
Net income (loss)....................... $ 0.43 $ 0.87 $ (0.42) $ (0.70) $ (0.76)
======== ========= ========= ========= =========
Common shares - Basic.......................... 14,637 15,387 15,766 16,485 16,630
======== ========= ========= ========= =========
Diluted earnings per share:
Continuing operations....................... $ 0.42 $ 0.88 $ (0.34) $ (0.40) $ (0.76)
Discontinued operations..................... -- (0.04) (0.08) (0.30) --
-------- --------- --------- --------- ---------
Net income (loss)......................... $ 0.42 $ 0.84 $ (0.42) $ (0.70) $ (0.76)
======== ========= ========= ========= =========
Common shares - Diluted........................ 15,117 15,969 15,766 16,485 16,630
======== ========= ========= ========= =========
AS OF DECEMBER 31,
--------------------------------------------------------------
1997 1998 1999 2000 2001
-------- --------- --------- --------- ---------
(IN THOUSANDS)
BALANCE SHEET DATA:
Cash and cash equivalents...................... $ 8,506 $ 3,568 $ 5,510 $ 1,327 $ 2,138
Working capital................................ 30,500 32,641 29,133 23,236 17,750
Total assets................................... 44,302 66,924 80,200 67,368 47,549
Short-term debt and current portion of
obligations under capital leases............. 386 11 10,585 5,623 4,712
Long-term debt and obligations under capital
leases, less current portion................. 433 60 -- 1,037 371
Shareholders' equity........................... 34,036 47,949 48,654 41,201 26,782
- 21 -
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company provides a wide range of high-quality, cost-effective
information technology solutions and services. These services and solutions
include the development, integration, implementation, management and support of
enterprise, e-commerce and m-commerce software applications. The Company's
onsite/offshore delivery model, comprehensive suite of tools and
industry-specific solutions provide customers with a faster time-to-market and
lower total cost of ownership.
In late 1999, the Company made the strategic decision to leverage its
traditional application integration and consulting experience and reposition
Intelligroup for future growth by focusing on the emerging ASP market. At the
same time, the Company made the strategic decision to spin-off its Internet
services business to its shareholders. Accordingly, on January 1, 2000, the
Company transferred its Internet applications services and management consulting
businesses to SeraNova.
On July 5, 2000, the Company distributed all of the outstanding shares of
the common stock of SeraNova then held by the Company to holders of record of
the Company's common stock as of the close of business on May 12, 2000 (or to
their subsequent transferees) in accordance with the terms of a Distribution
Agreement dated as of January 1, 2000 between the Company and SeraNova.
Accordingly, the assets, liabilities and results of operations of SeraNova have
been reported as discontinued operations for all periods presented. (See
Discontinued Operations.)
During the second half of 2000, finding that the market for ASP services
had not developed and grown as projected by market analysts, the Company
significantly reduced its investment in the ASP business model. Expenditures for
marketing and direct selling initiatives were significantly decreased, as were
the infrastructure and personnel that supported the Company's ASP services. The
Company renewed it focus and efforts on pursuing shorter-term success
opportunities of implementing and enhancing application solutions based on SAP,
Oracle and PeopleSoft products.
At the same time, the Company redirected some of its ASP infrastructure and
personnel towards Application Management Services. Additionally, the Company
introduced Power Up Services. Finally, in 2001, the Company developed Pharma
Express and Contractor Express. Pharma Express, a solution designed for
small-to-medium sized life sciences companies, improves manufacturing
efficiencies and helps control the total cost of production. Contractor Express
assists companies in improving operational efficiency and controlling
manufacturing project schedules.
During 1998 and 1999, the Company expanded its operations through its
acquisitions of CPI Consulting Limited, CPI Resources Limited and the Empower
Companies. The CPI Companies provide consulting and implementation services
related to PeopleSoft applications.
- 22 -
The Empower Companies provide business process reengineering, system design and
development, project management and training services.
The majority of the Company's revenues are derived from professional
services rendered to customers. Revenue is typically recognized as services are
performed. The Company's services range from providing customers with a single
consultant to multi-personnel full-scale projects. Although the Company has
contracts with many of its customers to provide its services, in general, such
contracts are terminable upon relatively short notice, typically not more than
30 days. There can be no assurance that the Company's customers will continue to
enter into contracts with the Company or that existing contracts will not be
terminated. The Company provides its services either directly to end-user
organizations, or as a member of a consulting team assembled by another
information technology consulting firm. Where contractual provisions permit,
customers also are billed for reimbursement of expenses incurred by the Company
on the customers' behalf.
The Company has provided services on certain projects in which it, at the
request of the clients, offered a fixed price for its services. For the years
ended December 31, 2000 and 2001, revenues derived from projects under fixed
price contracts represented approximately 10% and 17%, respectively, of the
Company's total revenue. No single fixed price project was material to the
Company's business during 2000 or 2001. The Company believes that, as it pursues
its strategy of providing application management services to customers, it will
continue to offer fixed price projects. The Company believes that there are
certain risks related to fixed price arrangements and thus prices such
arrangements to reflect the associated risk. There can be no assurance that the
Company will be able to complete such projects within the fixed price
timeframes. The failure to perform within such fixed price contracts, if entered
into, could have a material adverse effect on the Company's business, financial
condition and results of operations.
The Company has derived and believes that it will continue to derive a
significant portion of its revenue from a limited number of customers and
projects. For the years ended December 31, 1999, 2000 and 2001, the Company's
ten largest customers accounted for in the aggregate, approximately 43%, 34% and
33% of its revenue, respectively. During 1999 and 2000, one customer accounted
for more than 10% of revenue. During 2001, no single customer accounted for more
than 10% of revenue. For the years ended December 31, 1999, 2000 and 2001, 48%,
36% and 42%, respectively, of the Company's revenue was generated by serving as
a member of consulting teams assembled by other information technology
consulting firms. There can be no assurance that such information technology
consulting firms will continue to engage the Company in the future at current
levels of retention, if at all.
During the years ended December 31, 1999, 2000 and 2001, approximately 54%,
63% and 69%, respectively, of the Company's total revenue was derived from
projects in which the Company implemented, extended, maintained, managed or
supported software developed by SAP. For each of the years ended December 31,
1999, 2000 and 2001, approximately 33%, 24% and 17%, respectively, of the
Company's total revenue was derived from projects in which the Company
implemented, extended, maintained, managed or supported software developed by
PeopleSoft. For each of the years ended December 31, 1999, 2000 and 2001,
approximately 9%, of the Company's total revenue was derived from projects in
which the Company implemented, extended, maintained, managed or supported
software developed by Oracle.
- 23 -
The Company's most significant cost is project personnel expenses, which
consist of consultant salaries, benefits and payroll-related expenses. Thus, the
Company's financial performance is based primarily upon billing margin (billable
hourly rate less the cost to the Company of a consultant on an hourly basis) and
personnel utilization rates (billable hours divided by paid hours).
The Company currently maintains its headquarters in Edison (New Jersey),
and branch offices in Atlanta (Georgia), Rosemont (Illinois) and Foster City
(California). The Company also maintains offices in Europe (Denmark, Sweden and
the United Kingdom), and Asia Pacific (Australia, Hong Kong, India, Indonesia,
Japan, New Zealand, and Singapore). The Company leases its headquarters in
Edison, New Jersey. Such lease has an initial term of ten (10) years, which
commenced in September 1998.
DISCONTINUED OPERATIONS
On July 5, 2000, the Company completed the tax-free spin-off of SeraNova by
distributing all of the outstanding shares of the common stock of SeraNova then
held by the Company to holders of record of the Company's common stock as of the
close of business on May 12, 2000 (or to their subsequent transferees).
SeraNova represented a significant segment of the Company's business.
Pursuant to Accounting Principles Board ("APB") Opinion No. 30, "Reporting the
Results of Operations - Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions," the Consolidated Financial Statements of the Company have been
reclassified to reflect the spin-off of SeraNova. Accordingly, the results of
operations and cash flows of SeraNova have been segregated in the Consolidated
Statements of Operations and Consolidated Statements of Cash Flows. The net
operating results and net cash flows of SeraNova have been reported as
"Discontinued Operations." The historical carrying amount of the net assets of
SeraNova on the spin-off date has been recorded as a dividend.
The Company has reported a $4.9 million loss from discontinued operations
for the period from January 1, 2000 to July 5, 2000 and a $1.3 million loss from
discontinued operations for the year ended December 31, 1999.
CRITICAL ACCOUNTING POLICIES
The preparation of our financial statements in conformity with generally
accepted accounting principles in the United States requires us to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Our estimates, judgments and assumptions are
continually evaluated based on available information and experience. Because of
the use of estimates inherent in the financial reporting process, actual results
could differ from those estimates.
Certain of our accounting policies require higher degrees of judgment than
others in their application. These include revenue recognition, impairments and
estimation of useful lives of long-term assets, income tax recognition of
current and deferred tax items and accruals for
- 24 -
contingencies. In addition, the footnotes to the Consolidated Financial
Statements include further discussion of our significant accounting policies.
Revenue recognition. The Company generates revenue from professional
services rendered to customers. The majority of the Company's revenue is
generated under time-and-material contracts whereby costs are generally incurred
in proportion with contracted billing schedules and revenue is recognized as
services are performed, with the corresponding cost of providing those services
reflected as cost of sales. The majority of customers are billed on an hourly or
daily basis whereby actual time is charged directly to the customer. Such method
is expected to result in reasonably consistent profit margins over the contract
term.
The Company also recognizes revenue under certain unit-price and
fixed-price contracts. The Company follows the guidance contained in AICPA
Statement of Position ("SOP") 81-1, "Accounting for Performance of
Construction-Type and Certain Production-Type Contracts." SOP 81-1 requires the
use of percentage-of-completion accounting for long-term contracts that contain
enforceable rights regarding services to be provided and received by the
contracting parties, consideration to be exchanged, and the manner and terms of
settlement, assuming reasonably dependable estimates of revenue and expenses can
be made. The percentage-of-completion methodology generally results in the
recognition of reasonably consistent profit margins over the life of a contract.
Amounts recognized in revenue are calculated using the percentage of services
completed, on a current cumulative hours to total estimated hours basis.
Cumulative revenues recognized may be less or greater than cumulative costs and
profits billed at any point in time during a contract's term. The resulting
difference is included in deferred revenue.
Billings to customers for out-of-pocket expenses are recorded as a
reduction of expenses incurred. Unbilled services at December 31, 2001 and 2000
represent services provided through December 31, 2001 and 2000, respectively,
which are billed subsequent to year-end. All such amounts are anticipated to be
realized in the following year.
Any estimation process, including that used in preparing contract
accounting models, involves inherent risk. We reduce the inherent risk relating
to revenue and cost estimates in percentage-of-completion models through
approval and monitoring processes. Risks relating to service delivery, usage,
productivity and other factors are considered in the estimation process.
- 25 -
RESULTS OF OPERATIONS - CONSOLIDATED
The following table sets forth for the periods indicated certain financial
data expressed as a percentage of total revenue, for continuing operations:
PERCENTAGE OF REVENUE
-----------------------------------------------
YEAR ENDED DECEMBER 31
-----------------------------------------------
2001 2000 1999
---- ---- ----
Revenue................................................. 100.0 % 100.0 % 100.0 %
Cost of sales........................................... 67.5 66.9 66.6
------- ------- -------
Gross profit....................................... 32.5 33.1 33.4
Selling, general and administrative expenses............ 27.9 37.2 27.3
Depreciation and amortization expense................... 3.4 2.8 2.0
Acquisition expenses.................................... -- -- 1.4
Restructuring and other special charges................. 12.3 -- 5.0
------- ------- -------
Total operating expenses........................... 43.6 40.0 35.7
------- ------- -------
Operating loss..................................... (11.1) (6.9) (2.3)
Other income (expense), net............................. 0.0 0.5 (0.4)
------- ------- -------
Loss from continuing operations before income taxes..... (11.1) (6.4) (2.7)
Provision (benefit) for income taxes.................... 0.5 (0.5) 0.9
------- ------- -------
Net loss from continuing operations..................... (11.6)% (5.9)% (3.6)%
======= ======= =======
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
The following discussion compares the consolidated results of continuing
operations for the year ended December 31, 2001 and the year ended December 31,
2000.
Revenue. Total revenue decreased by 4.2%, or $4.7 million, from $112.8
million in 2000 to $108.1 million in 2001. This decrease was attributable
primarily to the continued weakness in the global economy and the resulting
impact on the IT services market. Throughout the year, the effects of the
uncertain and weakened economic climate impacted the Company, as customers
delayed and/or decreased the scope of IT projects, and as the Company
experienced competitive pricing pressures in the provision of consulting
services.
Gross profit. The Company's cost of sales primarily includes the cost of
salaries to consultants and related employee benefits and payroll taxes. The
Company's cost of sales decreased by 3.3%, or $2.5 million, from $75.4 million
in 2000 to $73.0 million in 2001. The Company's gross profit decreased by 6.1%,
or $2.3 million, from $37.4 million in 2000 to $35.1 million in 2001. These
decreases were attributable primarily to lower revenues. Gross margin decreased
slightly to 32.5% in 2001 from 33.1% in 2000. The Company was able to maintain
gross margins relatively comparable to the prior year by reducing non-billable
consultant time and other related costs.
Selling, general and administrative expenses. Selling, general and
administrative expenses primarily consist of administrative salaries, and
related benefits costs, occupancy costs, sales person compensation, travel and
entertainment and professional fees. Selling, general and administrative
expenses decreased by 28.1%, or $11.8 million, from $42.0 million in 2000 to
$30.2 million in 2001, and decreased as a percentage of revenue from 37.2% to
27.9%,
- 26 -
respectively. The decrease in selling, general and administrative expenses, in
absolute dollars and as a percentage of revenue, was related primarily to the
significant investments in marketing and developing the application management
services business in 2000. Subsequently, the Company has been focused on
improving operating efficiencies and controlling discretionary expenditures
throughout the organization to maintain a proper alignment with revenue.
Depreciation and amortization. Depreciation and amortization expenses
increased 15.9% to $3.7 million in 2001, compared to $3.2 million in 2000. The
increase is due primarily to additional computers, equipment and software placed
in service since 2000.
Restructuring and other special charges. In an effort to further refine our
business strategy around our core competencies and to refocus on more active
markets, we recorded a $13.3 million restructuring and other special charges
provision in 2001. The charges, which were mainly non-cash in nature, were
related primarily to the ASP business in the United States, the termination of
an agreement to build and operate a technology development and support center in
Puerto Rico, and to the restructuring and downsizing of the Company's operations
in the United Kingdom.
The charges associated with the ASP business in the United States included
a write-down of approximately $6.1 million in purchased computer software and
$469,000 in fixed assets, as well as $215,000 in severance costs and $152,000 in
exit costs. The Company determined that an impairment charge was required, since
the recoverability of the value of the computer software and fixed assets,
acquired for use in the ASP service offering, seemed unlikely given current and
future expected market conditions. The severance costs and exit costs relate to
the reduction of headcount associated with the ASP service offering.
The Company also determined that, based upon the current economic climate,
it did not need the expanded capacity associated with the planned technology
development and support center in Puerto Rico. Accordingly, the Company reached
an agreement with the Government of Puerto Rico to terminate the project and to
cancel the associated grant and other related contracts. As part of the
termination agreement, the Company was released from all future obligations
related to the project, but in exchange had to forego reimbursement of $1.3
million in previously incurred operating costs and fixed assets, which had
already been paid for by the Company.
Finally, the Company executed a plan to reorganize and downsize the
Company's operations in the United Kingdom ("UK"). The restructuring costs
included the write-down of $4.3 million of intangible assets and $174,000 of
fixed assets, as well as severance costs of $315,000 and exit costs of $273,000
associated with reducing employee headcount in the region. The Company's
operations in the UK now consist of a much smaller core group of billable
consultants, focused primarily on providing application support services in the
PeopleSoft market.
In conjunction with the reorganization of the UK operations, the Company
performed an assessment of the carrying value of the intangible assets. The
intangible asset balance, consisting primarily of goodwill and assembled
workforce, represents the excess purchase price associated with the acquisition
of CPI Consulting Limited during 1998. The analysis of intangible assets
- 27 -
was conducted in accordance with Statement of Financial Accounting Standards
("SFAS") No. 121, " Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of" guidelines and involved a combination of
financial forecasting and cash flow analysis. The Company considered the recent
trend in the UK operations of declining revenues and increasing operating losses
and the resulting impact on cash flows. The Company also considered that certain
key founders of CPI Consulting Limited have left the Company to pursue other
interests. Based upon the impairment test that was conducted, the Company
recorded an intangible asset impairment charge of $4.3 million.
Other income (expense), net. The Company earned $729,000 in interest income
in 2001, compared with $1.2 million in 2000. The interest income was related
primarily to the interest earned on the balance of the note receivable with
SeraNova. The decrease was related primarily to the Company not recording
accrued interest on the balance of the note receivable with SeraNova subsequent
to the maturity date of the note of July 31, 2001. Such note receivable is
currently in default and we have commenced litigation against SeraNova (see Part
I, Item 3, Legal Proceedings). The Company incurred $690,000 and $603,000 in
interest expense in 2001 and 2000, respectively, related primarily to borrowings
under its line of credit. Borrowings under the line of credit were used to fund
operating activities.
Provision (benefit) for income taxes. The Company's effective rate was 4.9%
and (7.9)% for the years ended December 31, 2001 and 2000, respectively. The
Company's net deferred tax asset as of December 31, 2001 relates primarily to
the US operations. Based on anticipated profitability in the near future,
management believes it is more likely than not, that the net deferred tax asset
of $1.6 million will be realized.
During 2001 and 2000, the Company continued to generate overall pre-tax
losses even though there were profits generated in foreign jurisdictions. The
Company provided a valuation allowance against certain of these net operating
loss carryforwards, as the ability to utilize these losses may be limited in the
future. This negatively impacted the amount of income tax benefit recorded in
both 2001 and 2000.
In 1996, the Company elected a five year tax holiday in India, in
accordance with a local tax incentive program whereby no income tax will be due
in such period. Such tax holiday was extended an additional five years in 1999.
Effective April 1, 2000 pursuant to changes introduced by the Indian Finance
Act, 2000, the tax holiday previously granted is no longer available and has
been replaced in the form of a tax deduction incentive. The impact of this
change is not expected to be material to the consolidated financial statements
of the Company. For the years ended December 31, 2001 and 2000, the tax holiday
and new tax deduction favorably impacted the Company's effective tax rate.
The Company's Indian subsidiary has received an assessment from the Indian
taxing authority denying tax exemptions claimed for certain of their fiscal year
March 31, 1998 revenue. The assessment is for 20 million rupees, or
approximately $417,000. Management, after consultation with its advisors,
believes the Company is entitled to the tax exemption claimed and thus has not
recorded a liability as of December 31, 2001. If the Company is not successful
with its appeal, which was filed in 2001, a future charge of approximately
$417,000 would be recorded and reflected in the Company's consolidated statement
of operations.
- 28 -
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
The following discussion compares the consolidated results of continuing
operations for the year ended December 31, 2000 and the year ended December 31,
1999.
Revenue. Total revenue decreased by 22.9%, or $33.5 million, from $146.3
million in 1999 to $112.8 million in 2000. This decrease was attributable
primarily to the anticipated decline in sales of traditional implementation
services offerings and slower than expected growth in outsourcing and hosting
revenues as the Company refocused resources into the application service
provider market. The decline in traditional implementation services and slower
than expected growth in the application service provider market resulted
primarily from the general economic slowdown in which customers have decreased
technology budgets and have displayed a lack of urgency to immediately fund
information technology projects.
Gross profit. The Company's cost of sales decreased by 22.6%, or $22.0
million, from $97.4 million in 1999 to $75.4 million in 2000. The Company's
gross profit decreased by 23.5%, or $11.5 million, from $48.9 million in 1999 to
$37.4 million in 2000. These decreases were attributable primarily to lower
revenues. Gross margin decreased slightly to 33.1% in 2000 from 33.4% in 1999.
The Company was able to maintain gross margins relatively comparable to the
prior year by managing non-billable consultant time.
Selling, general and administrative expenses. Selling, general and
administrative expenses increased by 5.3%, or $2.1 million, from $39.9 million
in 1999 to $42.0 million in 2000, and increased as a percentage of revenue from
27.3% to 37.2%, respectively. The increase in selling, general and
administrative expenses, in absolute dollars and as a percentage of revenue, was
related primarily to additional sales staff and expanded marketing efforts as
the Company refocused resources around the emerging application service provider
market.
Depreciation and amortization. Depreciation and amortization expenses
increased 8.8% to $3.2 million in 2000, compared to $2.9 million in 1999. The
increase is due primarily to additional computers, equipment and software placed
in service since 1999, in support of the ASPPlus business model.
Acquisition expense. In 1999, the Company incurred costs of $2.1 million in
connection with the acquisition of the Empower Companies. This acquisition was
accounted for as a pooling of interests. Acquisition costs consisted primarily
of professional fees associated with the acquisition.
Restructuring and other special charges. In connection with management's
plan to reduce costs and improve operating efficiencies, the Company incurred a
non-recurring charge of $5.6 million related to restructuring initiatives during
1999. The restructuring charge included settlement of the former chief executive
officer's employment agreement and additional severance payment, expenses
associated with the termination of certain employees in the United States and
the United Kingdom, the closing of certain satellite offices in the United
States and an additional office in Belgium, and costs to exit certain
contractual obligations. Over 83% of the total restructuring charges were paid
out in 1999 and an additional 11% were paid out in 2000. Additionally, the
Company recorded a reserve of $1.7 million against an outstanding receivable
- 29 -
from a large ERP account, whose parent corporation filed for protection under
Chapter 11 of the U.S. bankruptcy laws.
Other income (expense), net. The Company earned $1.2 million in interest
income in 2000, compared with $241,000 in 1999. The increase was related to the
additional interest earned on the balance of the note receivable with SeraNova,
which increased in 2000. The Company incurred $603,000 and $754,000 in interest
expense in 2000 and 1999, respectively, related primarily to borrowings under
its line of credit. Borrowings under the line of credit were used to fund
operating activities.
(Benefit) provision for income taxes. During 1999, the Company generated
losses for tax purposes in the United States and income related to its foreign
entities (foreign source income). As of December 31, 1999, the Company planned
to file a consolidated tax return. As a result, the Company would have generated
unused foreign tax credits related to this foreign source income. Accordingly,
as of December 31, 1999, included in deferred taxes was an asset for foreign tax
credits and a related valuation allowance as the ability to apply these credits
may be limited in the future.
During 2000, the Company changed their tax strategy, and filed separate
company returns for 1999, which resulted in the realization of the foreign tax
credits and a portion of the valuation allowance being reversed. By choosing
this strategy the Company was able to generate net operating losses, which are
less restrictive than the foreign tax credits.
During 2000, the Company continued to generate overall pre-tax losses even
though there were profits generated in foreign jurisdictions. The Company has
provided a valuation allowance against certain of these net operating loss
carryforwards, as the ability to utilize these losses may be limited in the
future. This has negatively impacted the amount of income tax benefit recorded
in 2000. Accordingly, the Company's effective tax rate was (7.9%) in 2000 and
37.1% in 1999. Based on anticipated profitability in the near future, management
believes it is more likely than not, that the 2000 net deferred tax asset of
$1,142,000 will be realized.
In 1996, the Company elected a five year tax holiday in India, in
accordance with a local tax incentive program whereby no income tax will be due
in such period. Such tax holiday was extended an additional five years in 1999.
Effective April 1, 2000 pursuant to changes introduced by the Indian Finance
Act, 2000, the tax holiday previously granted is no longer available and has
been replaced in the form of a tax deduction incentive. The impact of this
change is not expected to be material to the consolidated financial statements
of the Company. For the years ended December 31, 2000 and 1999, the tax holiday
and new tax deduction favorably impacted the Company's effective tax rate.
RESULTS OF OPERATIONS BY BUSINESS SEGMENT
The Company has four reportable operating segments, which are organized and
managed on a geographical basis, as follows:
o United States ("US") - the largest segment of the Company, with
operations in the United States and Puerto Rico. Includes the
operations of the Company's US
- 30 -
subsidiary, Empower, Inc., and all corporate functions and activities.
The US and corporate headquarters are located in Edison, New Jersey;
o Asia-Pacific ("APAC") - includes the operations of the Company in
Australia, Hong Kong, Indonesia, Japan, New Zealand and Singapore. The
APAC headquarters are located in Wellington, New Zealand;
o Europe - includes the operations of the Company in Denmark, Sweden and
the United Kingdom. The European headquarters are located in Norfolk,
United Kingdom; and
o India - includes the operations of the Company in India, Jamaica and
the United Arab Emirates. The Indian headquarters are located in
Hyderabad, India.
Each of the operating segments has a Managing Director, or manager with an
equivalent position, who reports directly to the Chief Executive Officer (CEO).
Currently, the CEO is fulfilling the requirements of this position in the US.
The CEO has been identified as the Chief Operating Decision Maker (CODM) because
he has final authority over resource allocation decisions and performance
assessment. The CODM regularly receives certain discrete financial information
about the geographical operating segments, including primarily revenue and
operating income, to evaluate segment performance.
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
The following discussion compares the segment results for the year ended
December 31, 2001 and the year ended December 31, 2000.
Revenue. The following table displays revenues by reportable segment (in
thousands).
YEAR ENDED DECEMBER 31
------------------------------------------------------------
2001 2000
---------------------------- ----------------------------
PERCENTAGE OF PERCENTAGE OF
DOLLARS TOTAL DOLLARS TOTAL
----------- ------------- ----------- -------------
United States....................... $ 72,285 66.9% $ 77,814 69.0%
Asia-Pacific........................ 12,757 11.8 10,806 9.6
Europe.............................. 10,636 9.8 17,844 15.8
India............................... 12,428 11.5 6,374 5.6
----------- ------------- ----------- -------------
Total............................... $108,106 100.0% $112,838 100.0%
=========== ============= =========== =============
US revenue decreased by 7.1%, or $5.5 million, from $77.8 million in 2000
to $72.3 million in 2001. The decrease was attributable primarily to the
continued weakness in the US economy and the resulting impact on the IT services
market. Throughout the year, the effects of the uncertain and weakened economic
climate impacted the US, as customers delayed and/or decreased the scope of IT
projects, and as the US experienced competitive pricing pressures in the
provision of consulting services.
APAC revenue increased by 18.1%, or $2.0 million, from $10.8 million in
2000 to $12.8 million in 2001. The increase was due primarily to new business
signings in Indonesia (an
- 31 -
increase of $1.6 million), Japan (an increase of $1.0 million) and Australia (an
increase of $851,000). The increase was partially offset by challenging economic
conditions in New Zealand (a decrease of $1.5 million).
Europe revenue decreased by 40.4%, or $7.2 million, from $17.8 million in
2000 to $10.6 million in 2001. The decrease was attributable primarily to the
United Kingdom ("UK") operations (a decrease of $7.1 million), while the Nordic
operations (Denmark and Sweden) remained relatively stable. The UK operations
were negatively impacted by the competitive economic conditions and the
resulting impact on the IT services market, particularly the SAP market. As a
result, the Company executed a plan to reorganize and downsize the Company's
operations in the UK during late 2001. The UK operations now consist of a much
smaller core group of billable consultants, focused primarily on providing
application management and support services in the PeopleSoft market.
India revenue increased by 95.0%, or $6.1 million, from $6.4 million in
2000 to $12.4 million in 2001. The increase was attributable primarily to the
growth in professional consulting services delivered through the Advanced
Development Center and application management services delivered through the
Global Support Center.
Operating Income (Loss). The following table displays operating income
(loss) by reportable segment (in thousands).
YEAR ENDED DECEMBER 31
------------------------------------------
2001 2000
------------------- --------------------
United States..................... $ (6,991) $ (6,228)
Asia-Pacific...................... 368 81
Europe............................ (8,495) (1,741)
India............................. 3,078 91
------------------- --------------------
Total............................. $(12,040) $ (7,797)
=================== ====================
The US operating loss increased by 12.3%, or $763,000, from $6.2 million in
2000 to $7.0 million in 2001. The increase in the operating loss was
attributable primarily to the $8.2 million of restructuring and other special
charges recorded in 2001. The restructuring and other special charges were
related primarily to the ASP business and the termination of a project to build
and operate a technology development and support center in Puerto Rico.
The charges associated with the ASP business included a write-down of
approximately $6.1 million in purchased computer software and $469,000 in fixed
assets, as well as $215,000 in severance costs and $152,000 in exit costs. The
charges associated with the center in Puerto Rico resulted from the Company
foregoing reimbursement of $1.3 million in previously incurred operating costs
and fixed assets in exchange for the Government of Puerto Rico releasing the
Company from all future obligations associated with the project.
Excluding the $8.2 million of charges, the US operating position improved
by 119.2%, or $7.4 million, from an operating loss of $6.2 million in 2000 to
operating income of $1.2 million in 2001. This improvement was attributable
primarily to a $12.5 million reduction in selling, general and administrative
expenses to $19.3 million, or 26.7% of revenue, in 2001, compared
- 32 -
with $31.8 million, or 40.9% of revenue, in 2000. In 2000, the Company invested
significantly in marketing and developing the application management services
business. Since late 2000, the Company has been focused on improving operating
efficiencies and controlling discretionary expenditures throughout the
organization to maintain a proper alignment with revenue.
The decline in selling, general and administrative expenses in 2001 was
partially offset by a decline in gross profit margin from 35.5% of revenue in
2000 to 31.4% of revenue in 2001. The decline in gross profit margin results
from competitive pricing pressures in the US market as well as a decrease in
consultant utilization rates.
APAC operating income increased by 354.3%, or $287,000, from $81,000 in
2000 to $368,000 in 2001. The increase was attributable primarily to an
improvement in operating performance in Australia (an increase of $643,000) and
Indonesia (an increase of $557,000), as both countries realized an improvement
in gross profit margins as consultant utilization improved. The increase was
partially offset by a decline in operating income in Japan (a decrease of
$941,000), as gross margins declined as a result of local market conditions.
Europe operating loss increased by 387.9%, or $6.8 million, from $1.7
million in 2000 to $8.5 million in 2001. The increase was attributable primarily
to an increase in the operating loss from the UK operations of $6.9 million,
while the Nordic operations remained relatively stable. The significant
operating loss in the UK resulted primarily from the restructuring program
initiated in the UK during late 2001 as well as competitive pricing pressures
and low consultant utilization. The UK restructuring costs, which totaled
approximately $5.1 million, included the write-down of certain intangible assets
and other long-lived assets, as well as severance costs and exit costs
associated with reducing employee headcount in the region.
India operating income increased by 3,282.4%, or $3.0 million, from $91,000
in 2000 to $3.1 million in 2001. The increase was attributable primarily to a
significant improvement in gross margins and selling, general and administrative
expenses as a percentage of revenue.
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
The following discussion compares the segment results for the year ended
December 31, 2000 and the year ended December 31, 1999.
Revenue. The following table displays revenues by reportable segment (in
thousands).
YEAR ENDED DECEMBER 31
------------------------------------------------------------
2000 1999
---------------------------- ----------------------------
PERCENTAGE OF PERCENTAGE OF
DOLLARS TOTAL DOLLARS TOTAL
----------- ------------- ----------- -------------
United States....................... $ 77,814 69.0% $105,898 72.4%
Asia-Pacific........................ 10,806 9.6 8,911 6.1
Europe.............................. 17,844 15.8 24,585 16.8
India............................... 6,374 5.6 6,878 4.7
----------- ------------- ----------- -------------
Total............................... $112,838 100.0% $146,272 100.0%
=========== ============= =========== =============
- 33 -
US revenue decreased by 26.5%, or $28.1 million, from $105.9 million in
1999 to $77.8 million in 2000. The decrease was attributable primarily to the
decline in sales of traditional implementation services offerings and slower
than expected growth in outsourcing and hosting revenues as the US refocused
resources into the application service provider market. The decline in
traditional implementation services and slower than expected growth in the
application service provider market resulted primarily from the general economic
slowdown in which customers have decreased technology budgets and have displayed
a lack of urgency to immediately fund information technology projects.
APAC revenue increased by 21.3%, or $1.9 million, from $8.9 million in 1999
to $10.8 million in 2000. The increase was due primarily to new business
signings in Japan (an increase of $2.6 million) and Singapore (an increase of
$282,000). The increase was partially offset by unfavorable market conditions in
Australia (a decrease of $957,000).
Europe revenue decreased by 27.4%, or $6.7 million, from $24.6 million in
1999 to $17.8 million in 2000. The decrease was attributable primarily to the UK
operations (a decrease of $6.4 million) and operations in Denmark (a decrease of
$880,000), while the operations in Sweden began in early 2000 (total revenue of
$561,000).
India revenue decreased by 7.3%, or $504,000, from $6.9 million in 1999 to
$6.4 million in 2000. The decrease was attributable primarily to the decline in
sales of traditional implementation services offerings. The decline in
traditional implementation services resulted primarily from the general economic
slowdown in which customers have decreased technology budgets and have displayed
a lack of urgency to immediately fund information technology projects.
Operating Income (Loss). The following table displays operating income
(loss) by reportable segment (in thousands).
YEAR ENDED DECEMBER 31
------------------------------------------
2000 1999
------------------------------------------
United States..................... $ (6,228) $ (6,133)
Asia-Pacific...................... 81 (483)
Europe............................ (1,741) 473
India............................. 91 2,768
------------------- --------------------
Total............................. $ (7,797) $ (3,375)
=================== ====================
The US operating loss increased by 1.5%, or $95,000, from $6.1 million in
1999 to $6.2 million in 2000. The decline in operating performance was
attributable primarily to an increase in selling, general and administrative
expenses from 39.4% of revenue in 1999 to 43.5% of revenue in 2000, as the
Company invested significantly in marketing and developing the application
service provider business during 2000.
In connection with management's plan to reduce costs and improve operating
efficiencies, the Company incurred a non-recurring charge of $4.8 million
related to restructuring initiatives during 1999. The restructuring charge
included settlement of the former chief
- 34 -
executive officer's employment agreement and additional severance payment,
expenses associated with the termination of certain employees in the United
States, the closing of certain satellite offices in the United States, and costs
to exit certain contractual obligations. Additionally, the Company recorded a
reserve of $1.7 million against an outstanding receivable from a large ERP
account, whose parent corporation filed for protection under Chapter 11 of the
U.S. bankruptcy laws. Finally, in 1999, the Company incurred costs of $2.1
million in connection with the acquisition of the Empower Companies. This
acquisition was accounted for as a pooling of interests. Acquisition costs
consisted primarily of professional fees associated with the acquisition.
Excluding all non-recurring charges, the US operating performance declined
from operating income of $2.4 million in 1999 to an operating loss of $6.2
million in 2000. The decrease in performance was attributable primarily to a
decrease in gross profit from $35.6 million in 1999 to $27.7 million in 2000,
and an increase in selling, general and administrative expenses as a percentage
of revenue.
APAC operating income increased by 116.8%, or $564,000, from an operating
loss of $483,000 in 1999 to operating income of $81,000 in 2000. The increase
was attributable primarily to an improvement in operating performance in Japan
(an increase of $671,000), as a result of a decline in selling, general and
administrative expenses as a percentage of revenue, and Australia (an increase
of $278,000), as a result of an improvement in gross margins. The increase was
partially offset by a decrease in operating performance in New Zealand (a
decrease of $361,000), as a result of a decline in gross margins.
Europe operating loss increased 468.1%, or $2.2 million, from operating
income of $473,000 in 1999 to an operating loss of $1.7 million in 2000. The
change was attributable primarily to the UK operations (an increase in the
operating loss of $1.3 million) and the operations in Denmark (an increase in
the operating loss of $809,000). The change in operating performance reflects
local market conditions.
In connection with management's plan to reduce costs and improve operating
efficiencies, the Company incurred a non-recurring charge of $794,000 related to
restructuring initiatives during 1999. The restructuring charge included
expenses associated with the termination of certain employees in the United
Kingdom, the closing of an additional office in Belgium, and costs to exit
certain contractual obligations.
Excluding all non-recurring charges, the UK operating performance declined
from operating income of $889,000 in 1999 to an operating loss of $1.2 million
in 2000. The decrease in performance was attributable primarily to a decrease in
gross profit from $5.1 million in 1999 to $3.1 million in 2000, and an increase
in selling, general and administrative expenses as a percentage of revenue.
India operating income decreased by 96.7%, or $2.7 million, from $2.8
million in 1999 to $91,000 in 2000. The decrease was attributable primarily to a
decrease in gross margins from 63.9% of revenue in 1999 to 40.4% of revenue in
2000. The decrease in gross margins results primarily from the increased costs
associated with the expanding of infrastructure in India in support of the
application service provider market.
- 35 -
LIQUIDITY AND CAPITAL RESOURCES
The Company funds its operations primarily from cash flow generated from
operations and financing activities, and prior to 1998 from cash balances
generated from the Company's initial and follow-on public offerings consummated
in October 1996 and July 1997, respectively.
The Company had cash and cash equivalents of $2.1 million at December 31,
2001 and $1.3 million at December 31, 2000. The Company had working capital of
$17.8 million at December 31, 2001 and $23.2 million at December 31, 2000.
Cash provided by continuing operating activities was $8.0 million during
the year ended December 31, 2001, resulting primarily from depreciation and
amortization of $4.5 million, the provision for doubtful accounts of $1.8
million, the restructuring and other special charges provision of $13.3 million
and decreases in accounts receivable of $7.1 million and other current assets of
$782,000. These amounts were partially offset by increases in unbilled services
of $1.6 million and decreases in accounts payable of $3.3 million and accrued
payroll and related taxes of $1.0 million. The decrease in accounts receivable
results from enhanced credit and collection efforts as well as the decrease in
revenues. The decrease in accounts payable and accrued payroll and related taxes
results from the overall decrease in operating expenses. Cash provided by
continuing operating activities during the year ended December 31, 2000 was $7.9
million. Cash used in continuing operating activities was $544,000 during the
year ended December 31, 1999.
The Company invested $3.1 million, $3.2 million and $2.4 million in
computer equipment, internal-use computer software and office furniture and
fixtures in 2001, 2000 and 1999, respectively. The increase reflects purchases
of computer and telecommunications equipment, internal-use computer software and
office furniture and fixtures for consultants and administrative staff.
In conjunction with the strategic decision to focus on the emerging ASP
market, the Company invested $2.7 million and $4.0 million in purchased computer
software licenses in 2001 and 2000, respectively. The computer software was to
be re-sold to customers as part of the Company's ASPPlus solutions and services.
However, during 2001, the Company recorded a write-down of the purchased
computer software, as management believed the recoverability of the value of the
assets acquired for use in the ASP service offering was unlikely given current
and future expected market conditions.
From January 29, 1999 until May 31, 2000, the Company had an unsecured
three-year $30.0 million revolving credit facility with PNC Bank, N.A. (the
"Bank"). The credit facility contained certain financial covenants in which the
Company was not in compliance with as of June 30, 1999 and September 30, 1999.
In January 2000, the Company finalized with the Bank the terms of a waiver and
amendment to the credit agreement to remedy defaults, which existed under the
credit agreement. However, the Company was not in compliance with the modified
financial covenants as of March 31, 2000. Accordingly, on May 9, 2000, the Bank
issued to the Company a waiver of the defaults, which existed under the credit
agreement for the quarter ended March 31, 2000.
- 36 -
On May 31, 2000, the Company and the Bank entered into an agreement to
replace the previous facility with a new three-year revolving credit facility.
Such credit facility is comprised of a revolving line of credit pursuant to
which the Company can borrow up to $20.0 million either at the Bank's prime rate
per annum or the Euro Rate plus 1.75% to 2.5% based upon the Company's ratio of
debt to EBITDA. The credit facility is collateralized by substantially all of
the assets of the United States based operations. The maximum borrowing
availability under the line of credit is based upon a percentage of eligible
billed and unbilled accounts receivable, as defined. As of December 31, 2001,
the Company had outstanding borrowings under the credit facility of $4.1
million. The Company estimates undrawn availability under the credit facility to
be $6.1 million as of December 31, 2001. As of December 31, 2000, the Company
had outstanding borrowings under the credit facility of $5.0 million.
The credit facility provides for the following financial covenants, among
other things, (1) the Company must maintain consolidated net worth, as defined
("consolidated net worth") of (a) not less than 95% of consolidated net worth of
the immediately preceding fiscal year-end as at each such fiscal quarter after
December 31, 2000; and (b) at least 105% of consolidated net worth as of the
immediately preceding fiscal year-end as at each such fiscal year-end subsequent
to December 31, 2000; provided, however, the foregoing covenant shall not be
tested for any quarter so long as the Company maintains, at all times during
such fiscal quarter, undrawn availability of more than $5.0 million and (2) the
Company must maintain unconsolidated net worth, as defined ("unconsolidated net
worth") of (a) not less than 95% of unconsolidated net worth of the immediately
preceding fiscal year-end as at each such fiscal quarter after December 31,
2000; and (b) at least 105% of unconsolidated net worth as of the immediately
preceding fiscal year-end as at each such fiscal year-end subsequent to December
31, 2000; provided, however, the foregoing covenant shall not be tested for any
quarter so long as the Company maintains, at all times during such fiscal
quarter, undrawn availability of more than $5.0 million. Additionally, the
credit facility contains material adverse change clauses with regard to the
financial condition of the assets, liabilities and operations of the Company.
As of December 31, 2001, the Company was not in compliance with the
consolidated net worth and unconsolidated net worth financial covenants. In
March 2002, the Company finalized with the Bank the terms of a waiver and
amendment to the credit agreement to remedy such defaults. The terms of the
waiver and amendment included, among other things, (1) a waiver of the covenant
defaults as of December 31, 2001, (2) a modification to the financial covenants
to require that consolidated net worth and unconsolidated net worth as of
December 31, 2002 be not less than 102% of consolidated net worth and
unconsolidated net worth, respectively, as of December 31, 2001, and (3) a new
financial covenant requiring that the Company generate earnings before interest,
taxes, depreciation and amortization ("EBITDA") of at least 90% of the prior
year's EBITDA. The Company believes that it will be in compliance with all
financial covenants throughout 2002.
On May 31, 2000, SeraNova and the Company formalized a $15.1 million
unsecured promissory note (the "Note") relating to net borrowings by SeraNova
from the Company through such date. The Note bears interest at the prime rate
plus 1/2%. The Company has recorded total accrued interest of $1.0 million and
$803,000 as of December 31, 2001 and 2000, respectively. The Company has not
recorded any accrued interest on the balance of the Note subsequent to the
- 37 -
maturity date of July 31, 2001. On September 29, 2000, the Company received a
$3.0 million payment from SeraNova.
In September 2000, SeraNova consummated an $8.0 million preferred stock
financing with two institutional investors. According to the mandatory
prepayment provisions of the Note, SeraNova was required to make a prepayment of
$3.0 million on the Note as a result of the stock financing. Subsequently, the
Company finalized with SeraNova the terms of an agreement to waive, subject to
certain conditions, certain of the mandatory prepayment obligations arising as a
result of the financing. The terms of the new agreement included, among other
things, that SeraNova pay the Company (i) $500,000 upon execution of the
agreement; (ii) $500,000 on or before each of January 31, 2001, February 28,
2001, March 31, 2001, April 30, 2001 and May 31, 2001; and (iii) $400,000 on or
before December 15, 2000 to be applied either as (a) an advance payment towards
a contemplated services arrangement for hosting services to be provided to
SeraNova by the Company (the "Hosting Agreement"); or (b) in the event that no
such Hosting Agreement is executed on or before December 15, 2000, an additional
advance prepayment toward the principal of the Note.
The Company received from SeraNova the $500,000 payment that was due upon
execution of the agreement and a $400,000 payment in December 2000 as an advance
payment towards the principal of the Note since no Hosting Agreement was
executed before December 15, 2000.
In 2001, the Company received principal payments totaling $2.1 million from
SeraNova. However, SeraNova failed to make final payment of all amounts due
under the Note to the Company as of July 31, 2001. On August 16, 2001, the
Company filed a complaint against SeraNova and Silverline Technologies Limited
("Silverline"), which acquired SeraNova in March 2001. As of such date, SeraNova
was obligated to pay to the Company the remaining principal (approximately $9.1
million) and accrued interest (approximately $1.0 million), or an aggregate of
$10.1 million. Although management believes they are entitled to the entire
$10.1 million balance, there can be no assurance that SeraNova and/or Silverline
will pay the entire balance due the Company. In the event the Company accepts a
payment in less than full satisfaction of the $10.1 million due, the Company
will record a charge against earnings for such difference. The Company has not
recorded a reserve against the remaining balance of $10.1 million under the Note
as of December 31, 2001, as the amount of loss, if any, cannot be reasonably
estimated. Management believes that SeraNova and/or Silverline have the ability
to pay the entire balance due. The resolution of this uncertainty could
materially impact the Company's consolidated financial position and results of
operations. In addition, SeraNova filed a counterclaim against the Company for
unspecified damages as a set-off against the Company's claims. In response to
the Company's request for a statement of damages, SeraNova stated that it was in
the process of calculating its damages, but for informational purposes claimed
compensatory damages in excess of $5.5 million and punitive damages in the
amount of $10.0 million (see Part I, Item 3, Legal Proceedings). The parties are
currently proceeding with the discovery process. The Company believes that there
is no basis to support such amounts claimed by SeraNova.
In June 2000, the Company announced an agreement with the Government of
Puerto Rico, in conjunction with the Puerto Rico Industrial Development Company
("PRIDCO"), to
- 38 -
locate a new technology development center in Puerto Rico ("PR-ADC"). The
agreement provided for substantial incentive grants to the Company, totaling
approximately $9.0 million. In mid-2000, the Company began constructing the
building, acquiring the necessary furniture, fixtures and equipment and engaging
in sales, marketing and other administrative activities to support the PR-ADC.
Accordingly, the Company had previously recorded an asset for the costs of these
activities and had requested reimbursement from the Government of Puerto Rico,
through PRIDCO in accordance with its contractual right.
During the second quarter of 2001, the Company found that processing of
reimbursement requests, previously submitted by the Company to PRIDCO, was being
delayed. Upon inquiry to PRIDCO, the Company was verbally advised that there
were certain concerns raised within PRIDCO about the delayed opening of the
PR-ADC, and about the Company's adherence to other commitments contained within
the grant documents. After repeated inquiries by the Company, the Company
received a letter from PRIDCO's counsel in July 2001, stating that the Company
was not in compliance with certain terms of the agreements, although specifics
were not provided. During the period from July through October 2001, the Company
met and corresponded with PRIDCO representatives on multiple occasions, to
determine the source of their concerns and seek appropriate resolution.
On November 2, 2001, the general counsel for PRIDCO notified the Company's
attorney advising that PRIDCO was amenable to an amicable termination of the
agreements, and would work with the Company to close out certain outstanding
issues, including the resolution of the litigation with Fe-Ri Construction (see
Part I, Item 3, Legal Proceedings).
The Company determined that this resolution was reasonable, and had the
least detrimental effect on the Company's continuing endeavors, including
opportunities for additional business within Puerto Rico. Accordingly, the
Company reached an agreement with the Government of Puerto Rico to terminate the
project and to cancel the associated grant and other related contracts. As part
of the termination agreement, the Company was released from all future
obligations related to the project, but in exchange had to forego reimbursement
of $1.3 million in previously incurred operating costs and fixed assets, which
had already been paid for by the Company. Accordingly, the Company recorded a
charge of $1.3 million, which is included in restructuring and other special
charges in the Consolidated Statements of Operations.
The Company's 2002 operating plan contains assumptions regarding revenue
and expenses. The achievement of the operating plan depends heavily on the
timing of work performed by the Company on existing projects and the ability of
the Company to gain and perform work on new projects. Project cancellations,
delays in the timing of work performed by the Company on existing projects or
the inability of the Company to gain and perform work on new projects could have
an adverse impact on the Company's ability to execute its operating plan and
maintain adequate cash flow. In the event actual results do not meet the
operating plan, management believes it could execute contingency plans to
mitigate such effects. Such plans include additional cost reductions or seeking
additional financing. Considering the cash on hand, the remaining availability
under the credit facility and based on the achievement of the operating plan and
management's actions taken to date, management believes it has the ability to
continue to generate sufficient cash to satisfy its operating requirements in
the normal course of business. However, no assurance can be given that
sufficient cash will be generated from operations.
- 39 -
The Company believes that its available funds, together with current credit
arrangements and the cash flow expected to be generated from operations, will be
adequate to satisfy its current and planned operations for at least the next 12
months.
NASDAQ NATIONAL MARKET
From time to time, the Company's Common Stock has failed to maintain a
minimum bid price of $1.00 per share. If the Company fails to maintain a minimum
bid price of $1.00 per share for a period of 30 consecutive business days, it
would be subject to notification by the Nasdaq National Market that it failed to
meet its requirements for continued listing. Upon such notice, the Company would
have 90 days from the notice date to regain compliance by having the bid price
for its Common Stock close at $1.00 or greater for a minimum of 10 consecutive
business days during the 90-day compliance period. A delisting from the Nasdaq
National Market could severely and adversely affect the market liquidity of the
Company's Common Stock.
COMMITMENTS
The Company leases office space, office equipment and vehicles under
capital and operating leases that have initial or remaining non-cancelable lease
terms in excess of one year as of December 31, 2001. Future minimum aggregate
annual lease payments are as follows:
FOR THE YEARS
ENDING DECEMBER 31, CAPITAL OPERATING
------------------------------- ------------ -------------
2002.......................... $ 727,000 $2,162,000
2003.......................... 383,000 1,670,000
2004.......................... -- 1,421,000
2005.......................... -- 1,038,000
2006.......................... -- 980,000
Thereafter.................... -- 1,397,000
------------
Subtotal...................... 1,110,000
Less-Interest................. 93,000
------------
1,017,000
Less-Current Portion.......... 646,000
------------
$ 371,000
============
During late 2001, SeraNova failed to pay certain outstanding lease
obligations to the Company's landlords. Accordingly, on March 4, 2002, the
Company filed an arbitration demand with the American Arbitration Association
against SeraNova and Silverline Technologies. The demand for arbitration seeks
reimbursement from SeraNova and/or Silverline Technologies for all rent payments
made by the Company on behalf of SeraNova and for jurisdiction over further
payment defaults by SeraNova and/or Silverline Technologies to the Company and
its landlords (see Part I, Item 3, Legal Proceedings). The Company does not
believe that the outcome of this claim will have a materially adverse effect on
the Company's business, financial condition or results of operations. The
Company also believes it has sufficient funds to pay the outstanding lease
obligations on behalf of SeraNova for the shared office space for at least the
next 12 months.
- 40 -
RELATED PARTY TRANSACTIONS AND TRANSACTIONS WITH AFFILIATES
Nagarjun Valluripalli, the Chief Executive Officer and a Director of the
Company, Rajkumar Koneru, a Director of the Company, and Ashok Pandey, an
affiliate of the Company, were the sole shareholders of Intelligroup Asia
Private Ltd. ("Intelligroup Asia"). Historically, Intelligroup Asia operated the
Advanced Development Center in Hyderabad, India for the sole and exclusive use
and benefit of the Company and all contracts and commercial arrangements of
Intelligroup Asia were subject to prior approval by the Company. The Company and
Messrs. Valluripalli, Koneru and Pandey entered into an agreement pursuant to
which the Company would, subject to necessary Indian government approvals,
acquire the shares of Intelligroup Asia for nominal consideration. Such Indian
government approvals were received in September 1997. As a result, the Company
currently owns 99.8% of the shares of Intelligroup Asia.
The Board of Directors of the Company has adopted a policy requiring that
any future transactions between the Company and its officers, directors,
principal shareholders and their affiliates be on terms no less favorable to the
Company than could be obtained from unrelated third parties. In addition, New
Jersey law requires that any such transactions be approved by a majority of the
disinterested members of the Company's Board of Directors.
During 2001, the Company provided services to FirePond, which produced
revenues for the Company totaling approximately $156,000. A member of the
Company's Board of Directors, Klaus P. Besier, serves as the Chief Executive
Officer of FirePond. The Company provided implementation services to various end
clients, as a sub-contractor to FirePond. Services were priced at rates
comparable to other similar sub-contracting arrangements in which the Company
regularly participates.
On May 30, 2001, the Company advanced the amount of $60,000 to Mr.
Valluripalli, with the intent that such amount would be applied against any
performance bonus due Mr. Valluripalli for the full year 2001. In connection
with such arrangement, the parties executed a compensation advance agreement
executed by Mr. Valluripalli in favor of the Company (the "Compensation
Advance"). The Compensation Advance provides, among other things, for (i)
repayment of the outstanding principal amount of the Compensation Advance on or
before May 22, 2002; (ii) the accrual of no interest on amounts outstanding
under the Compensation Advance during the period of Mr. Valluripalli's
employment with the Company; and (iii) the accrual of interest on amounts
outstanding under the Compensation Advance at a rate per annum equal to the
Federal Funds Effective Rate announced by the Federal Reserve Bank of New York,
in the event of and following the termination of Mr. Valluripalli's employment
with the Company. The largest aggregate amount of indebtedness outstanding at
any time during the term of the Compensation Advanced was $60,000. In March
2002, the Compensation Committee of the Company's Board of Directors approved a
full year 2001 bonus for Mr. Valluripalli in an amount of $200,000.
- 41 -
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations." SFAS No. 141 changes the accounting for business combinations,
requiring that all business combinations be accounted for using the purchase
method and that intangible assets be recognized as assets apart from goodwill if
they arise from contractual or other legal rights, or if they are separable or
capable of being separated from the acquired entity and sold, transferred,
licensed, rented or exchanged. SFAS No. 141 is effective for all business
combinations initiated after June 30, 2001.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 specifies the financial accounting and reporting for
acquired goodwill and other intangible assets. Goodwill and intangible assets
that have indefinite useful lives will not be amortized but rather will be
tested at least annually for impairment. SFAS No. 142 is effective for fiscal
years beginning after December 15, 2001. SFAS No. 142 requires that the useful
lives of intangible assets acquired on or before June 30, 2001 be reassessed and
the remaining amortization periods adjusted accordingly. Previously recognized
intangible assets deemed to have indefinite lives shall be tested for
impairment. Goodwill recognized on or before June 30, 2001, shall be assigned to
one or more reporting units and shall be tested for impairment as of the
beginning of the fiscal year in which SFAS No. 142 is initially applied in its
entirety. As of December 31, 2001, the Company had no recorded goodwill.
Therefore, the Company believes that the adoption of SFAS No. 142 will not have
a material impact on its financial position or results of operations.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 addresses financial accounting and
reporting obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS No. 143 is effective for
fiscal years beginning after June 14, 2002. The Company has evaluated the impact
of the adoption of SFAS No. 143, which is effective for the Company as of
January 1, 2003, does not believe it will have a material impact on the
Company's financial position or results of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." SFAS No. 144 changes the
accounting for long-lived assets by requiring that all long-lived assets be
measured at the lower of carrying amount or fair value less cost to sell,
whether reporting continuing operations or in discontinued operations. SFAS No.
144, which replaces SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of," is effective for fiscal
years beginning after December 15, 2001. Management has evaluated the impact of
the adoption of SFAS No. 144, which is effective for the Company as of January
1, 2002, and does not believe it will have a material impact on the Company's
financial position or results of operations.
In November 2001, the Emerging Issues Task Force ("EITF") of the FASB
concluded that reimbursements received for "out-of-pocket" expenses should be
classified as revenue, and correspondingly cost of services, in the statement of
operations. Most service companies, whose employees incur incidental expenses
such as airfare, mileage, hotel and out-of-town meals while
- 42 -
working on behalf of customers, currently report reimbursements for
"out-of-pocket" expenses on a "net" basis in the statement of operations. The
new reporting treatment requires companies to report these reimbursements on a
"gross" basis beginning in financial reporting periods after December 15, 2001.
The Company is still evaluating the impact of the adoption of this EITF
interpretation, which will negatively impact gross margins, but does not believe
it will have a material impact on the Company's results of operations.
EUROPEAN MONETARY UNION (EMU)
The euro was introduced on January 1, 1999, at which time the eleven
participating EMU member countries established fixed conversion rates between
their existing currencies (legacy currencies) and the euro. The legacy
currencies will continue to be used as legal tender through January 1, 2002;
thereafter, the legacy currencies will be canceled and euro bills and coins will
be used for cash transactions in the participating countries. The Company's
European sales and operations offices affected by the euro conversion have
established plans to address the systems issues raised by the euro currency
conversion and are cognizant of the potential business implications of
converting to a common currency. The Company is unable to determine the ultimate
financial impact of the conversion on its operations, if any, given that the
impact will be dependent upon the competitive situations which exist in the
various regional markets in which the Company participates and the potential
actions which may or may not be taken by the Company's competitors and
suppliers.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Although the Company cannot accurately determine the precise effect thereof
on its operations, it does not believe inflation, currency fluctuations or
interest rate changes have historically had a material effect on its revenues or
results of operations. Any significant effects of inflation, currency
fluctuations and changes in interest rates on the economies of the United
States, Europe or Asia Pacific could adversely impact the Company's revenues and
results of operations in the future. If there is a material adverse change in
the relationship between European currencies and/or Asian currencies and the
United States Dollar, such change would adversely affect the result of the
Company's European and/or Asia Pacific operations as reflected in the Company's
financial statements. The Company has not hedged its exposure with respect to
this currency risk, and does not expect to do so in the future, since it does
not believe that it is practicable for it to do so at a reasonable cost.
ITEM 8. FINANCIAL STATEMENTS.
The financial statements required to be filed pursuant to this Item 8 are
included in this Annual Report on Form 10-K. A list of the financial statements
filed herewith is found at "Item 14. Exhibits, List, and Reports on Form 8-K."
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
- 43 -
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information relating to the Company's directors, nominees for election
as directors and executive officers under the headings "Election of Directors"
and "Executive Officers" in the Company's definitive proxy statement for the
2002 Annual Meeting of Shareholders is incorporated herein by reference to such
proxy statement.
ITEM 11. EXECUTIVE COMPENSATION.
The discussion under the heading "Executive Compensation" in the Company's
definitive proxy statement for the 2002 Annual Meeting of Shareholders is
incorporated herein by reference to such proxy statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The discussion under the heading "Security Ownership of Certain Beneficial
Owners and Management" in the Company's definitive proxy statement for the 2002
Annual Meeting of Shareholders is incorporated herein by reference to such proxy
statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The discussion under the heading "Certain Relationships and Related
Transactions" in the Company's definitive proxy statement for the 2002 Annual
Meeting of Shareholders is incorporated herein by reference to such proxy
statement.
- 44 -
PART IV
ITEM 14. EXHIBITS, LIST, AND REPORTS ON FORM 8-K.
(a) (1) Financial Statements.
Reference is made to the Index to Financial Statements on Page
F-1.
(2) Financial Statement Schedules.
None.
(3) Exhibits.
Reference is made to the Exhibit Index on Page 48.
(b) Reports on Form 8-K.
No reports on Form 8-K were filed during the quarter ended
December 31, 2001.
- 45 -
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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 this 29th day of March
2002.
INTELLIGROUP, INC.
By: /s/ Nagarjun Valluripalli
---------------------------------
Nagarjun Valluripalli,
Chief Executive Officer
- 46 -
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Nagarjun Valluripalli Chief Executive Officer and March 29, 2002
- ---------------------------
Nagarjun Valluripalli Director (principal executive
officer)
/s/ Nicholas Visco Senior Vice President- Finance March 29, 2002
- ---------------------------
Nicholas Visco and Administration (principal
financial and accounting officer)
/s/ Rajkumar Koneru Director March 29, 2002
- ---------------------------
Rajkumar Koneru
/s/ Klaus Besier Director March 29, 2002
- ---------------------------
Klaus Besier
/s/ Dennis McIntosh Director March 29, 2002
- ---------------------------
Dennis McIntosh
/s/ Gregory S. Dimit Director March 29, 2002
- ---------------------------
Gregory S. Dimit
- 47 -
EXHIBIT INDEX
Exhibit No. Description of Exhibit
- ----------- ----------------------
2 Agreement and Plan of Merger of the Company and its wholly owned
subsidiary Oxford Systems Inc. (Incorporated by reference to the
Company's Annual Report on Form 10-KSB for the year ended
December 31, 1996.)
3.1 Amended and Restated Certificate of Incorporation. (Incorporated
by reference to the Company's Registration Statement on Form SB-2
(Registration Statement No. 333-5981) declared effective on
September 26, 1996.)
3.2 Amended and Restated Bylaws. (Incorporated by reference to the
Company's Registration Statement on Form SB-2 (Registration
Statement No. 333-5981) declared effective on September 26,
1996.)
4.1 Shareholder Protection Rights Agreement dated as of November 6,
1998, between the Company and American Stock Transfer & Trust
Company which includes (I) the Form of Rights Certificate and
(ii) the Certificate of Amendment to the Amended and Restated
Certificate of Incorporation of Intelligroup, Inc. (Incorporated
by reference to Exhibit No. 4.1 of the Company's Report on Form
8-K dated November 9, 1998, filed with the Securities and
Exchange Commission on November 9, 1998.)
10.1*+ 1996 Stock Plan, as amended, of the Company.
10.2* 1996 Non-Employee Director Stock Option Plan. (Incorporated by
reference to the Company's Registration Statement on Form SB-2
(Registration Statement No. 333-5981) declared effective on
September 26, 1996.)
10.3 Form of Indemnification Agreement entered into by the Company and
each of its Directors and officers. (Incorporated by reference to
the Company's Registration Statement on Form SB-2 (Registration
Statement No. 333-5981) declared effective on September 26,
1996.)
10.4 Employment Agreement dated October 1, 1999 between the Company
and Nicholas Visco. See Exhibit 10.30.
10.5 Employee's Invention Assignment and Confidentiality Agreement.
(Incorporated by reference to the Company's Registration
Statement on Form SB-2 (Registration Statement No. 333-5981)
declared effective on September 26, 1996.)
10.6 Services Provider Agreement by and between Oracle Corporation and
the Company dated July 26, 1994. (Incorporated by reference to
the Company's Registration Statement on Form SB-2 (Registration
Statement No. 333-5981) declared effective on September 26,
1996.) See Exhibit 10.8.
- 48 -
Exhibit No. Description of Exhibit
- ----------- ----------------------
10.7 Agreement by and between the Company and Intelligroup Asia
Private Limited ("Intelligroup Asia") relating to operational
control of Intelligroup Asia, with related agreements.
(Incorporated by reference to the Company's Registration
Statement on Form SB-2 (Registration Statement No. 333-5981)
declared effective on September 26, 1996.)
10.8 Amendment No. 1 to Services Provider Agreement by and between
Oracle Corporation and the Company dated December 30, 1996.
(Incorporated by reference to the Company's Annual Report on Form
10-KSB for the year ended December 31, 1996.) See Exhibit 10.6.
10.9 R/3 National Logo Partner Agreement by and between SAP America,
Inc. and the Company dated as of April 29, 1997. (Incorporated by
reference to the Company's Registration Statement on Form SB-2
(Registration Statement No. 333-29119) declared effective on June
26, 1997.) See Exhibits 10.10, 10.21 and 10.31.
10.10 ASAP Partner Addendum to R/3 National Logo Partner Agreement
between SAP America, Inc. and the Company effective July 1, 1997
(amends existing R/3 National Logo Partner Agreement).
(Incorporated by reference to the Company's Quarterly Report on
Form 10-QSB for the quarter ended September 30, 1997.) See
Exhibits 10.9, 10.21 and 10.31.
10.11 Implementation Partner Agreement between PeopleSoft, Inc. and the
Company effective July 15, 1997. (Incorporated by reference to
the Company's Quarterly Report on Form 10-QSB for the quarter
ended September 30, 1997.) See Exhibit 10.20.
10.12 Consulting Alliance Agreement with Baan International B.V. and
the Company effective September 29, 1997. (Incorporated by
reference to the Company's Quarterly Report on Form 10-QSB for
the quarter ended September 30, 1997.)
10.13 Lease Agreement between Alfieri-Parkway Associates, as Landlord,
and Intelligroup, Inc., as Tenant, dated March 17, 1998.
(Incorporated by reference to the Company's Quarterly Report on
Form 10-Q for the quarter ended March 31, 1998.)
10.14 Agreement of Purchase and Sale dated as of May 7, 1998 among the
Company, Intelligroup Europe Limited and the Shareholders of CPI
Consulting Limited. (Incorporated by reference to the Company's
Report on Form 8-K filed May 27, 1998.)
10.15 Agreement of Purchase and Sale dated as of May 21, 1998 among the
Company, Intelligroup Europe Limited and the Shareholders of CPI
Resources Limited. (Incorporated by reference to the Company's
Report on Form 8-K filed May 27, 1998.)
- 49 -
Exhibit No. Description of Exhibit
- ----------- ----------------------
10.16 Agreement of Purchase and Sale dated as of November 25, 1998
among the Company and the Shareholders of each of Azimuth
Consulting Limited, Azimuth Holdings Limited, Braithwaite
Richmond Limited and Azimuth Corporation Limited. (Incorporated
by reference to the Company's Report on Form 8-K filed December
8, 1998.)
10.17 Stock Purchase Agreement dated as of December 21, 1998 among the
Company and the Shareholders of Network Publishing, Inc.
(Incorporated by reference to the Company's Report on Form 8-K
filed January 8, 1999.)
10.18 Agreement and Plan of Merger dated as of February 16, 1999 by and
among the Company, ES Merger Corp., Empower Solutions, LLC and
the members of Empower Solutions, LLC. (Incorporated by reference
to the Company's Report on Form 8-K filed February 24, 1999.)
10.19 Agreement and Plan of Merger dated as of February 16, 1999 by and
among the Company, ES Merger Corp., Empower Solutions, Inc. and
the stockholders of Empower, Inc. (Incorporated by reference to
the Company's Report on Form 8-K filed February 24, 1999.)
10.20* Fifth Amendment to the Implementation Partner Agreement dated
July 15, 1998, between the Company and PeopleSoft, Inc. See
Exhibit 10.11.
10.21* Amendment to the National Implementation Partner Agreement dated
as of January 1, 1999, between SAP America and the Company. See
Exhibits 10.9, 10.10 and 10.31.
10.22 Contribution Agreement by and between Intelligroup, Inc. and
SeraNova, Inc. dated as of January 1, 2000. (Incorporated by
reference to the Company's Annual Report on Form 10-K for the
year ended December 31, 1999.)
10.23 Distribution Agreement by and between Intelligroup, Inc. and
SeraNova, Inc. dated as of January 1, 2000. (Incorporated by
reference to the Company's Annual Report on Form 10-K for the
year ended December 31, 1999.)
10.24 Services Agreement by and between Intelligroup, Inc. and
SeraNova, Inc. dated as of January 1, 2000. (Incorporated by
reference to the Company's Annual Report on Form 10-K for the
year ended December 31, 1999.)
10.25 Space Sharing Agreement by and among Intelligroup, Inc. and
SeraNova, Inc. dated as of January 1, 2000. (Incorporated by
reference to the Company's Annual Report on Form 10-K for the
year ended December 31, 1999.)
- 50 -
Exhibit No. Description of Exhibit
- ----------- ----------------------
10.26 Tax Sharing Agreement by and between Intelligroup, Inc. and
SeraNova, Inc. dated as of January 1, 2000. (Incorporated by
reference to the Company's Annual Report on Form 10-K for the
year ended December 31, 1999.)
10.27* Amended and Restated Revolving Credit Loan and Security Agreement
among the Company, Empower, Inc. and PNC Bank, National
Association. (Incorporated by reference to the Company's
Quarterly Report on Form 10-Q for the quarter ended June 30,
2000.)
10.28 Amended and Restated Promissory Note by and between the Company
and SeraNova, Inc. dated as of May 31, 2000. (Incorporated by
reference to the Company's Report on Form 8-K/A filed September
14, 2000.) See Exhibit 10.29.
10.29 Agreement and Waiver with respect to Amended and Restated
Promissory Note by and between the Company and SeraNova, Inc.
dated as of September 29, 2000. (Incorporated by reference to the
Company's Quarterly Report on Form 10-Q for the quarter ended
September 30, 2000.) See Exhibit 10.28.
10.30* First Amendment to Employment Agreement between the Company and
Nicholas Visco dated November 1, 2000.
10.31 mySap.com Partner-Services Addendum effective June 7, 2000 to R/3
National Logo Partner Agreement between SAP America, Inc. and the
Company. See Exhibits 10.9, 10.10 and 10.21.
10.32 Service Alliance Master Agreement and Addendums dated May 5, 2000
between PeopleSoft, Inc. and the Company.
10.33+ First Amendment to Loan Documents and Waiver Agreement dated
March 27, 2002 between the Company, Empower, Inc. and PNC Bank,
National Association.
21+ Subsidiaries of the Registrant.
23+ Consent of Arthur Andersen LLP.
99+ Letter to the Securities and Exchange Commission dated March 29,
2002, regarding the receipt of certain representations from
Arthur Andersen LLP.
- --------------
* A management contract or compensatory plan or arrangement required to be
filed as an exhibit pursuant to Item 14(c) of Form 10-K.
+ Filed herewith. All other exhibits previously filed.
- 51 -
INTELLIGROUP, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Report of Independent Public Accountants................................ F-2
Consolidated Financial Statements:
Consolidated Balance Sheets as of December 31, 2001 and 2000............ F-3
Consolidated Statements of Operations for the years ended
December 31, 2001, 2000 and 1999................................... F-4
Consolidated Statements of Shareholders' Equity for the years ended
December 31, 2001, 2000 and 1999................................... F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 2001, 2000 and 1999................................... F-6
Notes to Consolidated Financial Statements.............................. F-7
Financial Statement Schedules
Financial Statement Schedules required by the Securities and
Exchange Commission have been omitted, as the required
information is included in the Notes to Consolidated Financial
Statements or is not applicable.
F - 1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of Intelligroup, Inc.:
We have audited the accompanying consolidated balance sheets of
Intelligroup, Inc. (a New Jersey corporation) and subsidiaries as of December
31, 2001 and 2000, and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 2001. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Intelligroup, Inc. and
subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001, in conformity with accounting principles generally accepted
in the United States.
ARTHUR ANDERSEN LLP
Roseland, New Jersey
February 1, 2002
(except with respect to paragraph 4
of Note 3, as to which the
date is March 27, 2002)
F - 2
INTELLIGROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2001 and 2000
2001 2000
------------- -------------
ASSETS
Current Assets:
Cash and cash equivalents............................. $ 2,138,000 $ 1,327,000
Accounts receivable, less allowance for doubtful
accounts of $2,073,000 and $2,061,000 at
December 31, 2001 and 2000, respectively.......... 13,519,000 22,438,000
Unbilled services..................................... 7,536,000 5,933,000
Prepaid income taxes.................................. 342,000 384,000
Deferred tax asset.................................... 1,736,000 1,348,000
Other current assets.................................. 3,571,000 5,530,000
Note receivable - SeraNova............................ 9,140,000 11,200,000
------------- -------------
Total current assets............................ 37,982,000 48,160,000
Property and equipment, net........................... 8,099,000 9,650,000
Intangible assets, net................................ -- 4,732,000
Other assets.......................................... 1,468,000 4,826,000
------------- -------------
$ 47,549,000 $ 67,368,000
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable...................................... $ 3,548,000 $ 6,849,000
Accrued payroll and related taxes..................... 5,465,000 6,480,000
Accrued expenses and other current liabilities........ 4,869,000 4,342,000
Deferred revenue...................................... 1,211,000 1,003,000
Income taxes payable.................................. 427,000 627,000
Current portion of long-term debt and obligations
under capital leases.............................. 4,712,000 5,623,000
------------- -------------
Total current liabilities..................... 20,232,000 24,924,000
------------- -------------
Deferred tax liability.................................. 164,000 206,000
------------- -------------
Obligations under capital leases, less current portion.. 371,000 1,037,000
------------- -------------
Commitments and contingencies
Shareholders' Equity:
Preferred stock, $.01 par value, 5,000,000 shares
authorized,
none issued or outstanding........................ -- --
Common stock, $.01 par value, 25,000,000 shares
authorized, 16,630,000 shares issued and
outstanding at December 31, 2001 and 2000......... 166,000 166,000
Additional paid-in capital............................ 41,366,000 41,366,000
Retained earnings (accumulated deficit)............... (10,685,000) 1,908,000
Currency translation adjustments...................... (4,065,000) (2,239,000)
------------- -------------
Total shareholders' equity ..................... 26,782,000 41,201,000
------------- -------------
$ 47,549,000 $ 67,368,000
============= =============
The accompanying notes to consolidated financial statements are an integral part
of these balance sheets.
F - 3
INTELLIGROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2001, 2000 and 1999
2001 2000 1999
------------- ------------- -------------
Revenue...................................... $ 108,106,000 $ 112,838,000 $ 146,272,000
Cost of sales................................ 72,984,000 75,444,000 97,382,000
------------- ------------- -------------
Gross profit............................. 35,122,000 37,394,000 48,890,000
------------- ------------- -------------
Selling, general and administrative expenses. 30,206,000 42,004,000 39,892,000
Depreciation and amortization................ 3,695,000 3,187,000 2,930,000
Acquisition expenses......................... -- -- 2,115,000
Restructuring and other special charges...... 13,261,000 -- 7,328,000
------------- ------------- -------------
Total operating expenses................. 47,162,000 45,191,000 52,265,000
------------- ------------- -------------
Operating loss........................... (12,040,000) (7,797,000) (3,375,000)
Interest income (expense), net............... 39,000 570,000 (513,000)
------------- ------------- -------------
Loss from continuing operations before
income tax provision (benefit)........... (12,001,000) (7,227,000) (3,888,000)
Income tax provision (benefit)............... 592,000 (573,000) 1,441,000
------------- ------------- -------------
Loss from continuing operations.............. (12,593,000) (6,654,000) (5,329,000)
Loss from discontinued operations, net of
tax benefit of $0, $(2,095,000) and
$(235,000), respectively................. -- (4,891,000) (1,261,000)
------------- ------------- -------------
Net loss..................................... $ (12,593,000) $ (11,545,000) $ (6,590,000)
============= ============= =============
Earnings per share:
Basic and diluted earnings per share:
Loss from continuing operations ..... $ (0.76) $ (0.40) $ (0.34)
Discontinued operations ............. -- (0.30) (0.08)
------------- ------------- -------------
Net loss per share................ $ (0.76) $ (0.70) $ (0.42)
============= ============= =============
Weighted average number of common
shares - basic and diluted........ 16,630,000 16,485,000 15,766,000
============= ============= =============
The accompanying notes to consolidated financial statements are an integral part
of these statements.
F - 4
INTELLIGROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
For the Years Ended December 31, 2001, 2000 and 1999
CUMULATIVE
RETAINED FOREIGN
ADDITIONAL EARNINGS CURRENCY TOTAL COMPREHENSIVE
PAID-IN (ACCUMULATED TRANSLATION SHAREHOLDERS' INCOME (LOSS)
COMMON STOCK CAPITAL DEFICIT) ADJUSTMENTS EQUITY FOR THE PERIOD
------------ ---------- ------------ ------------ ------------- --------------
SHARES AMOUNT
---------- ---------
Balance at December 31, 1998.. 15,573,000 $156,000 $35,261,000 $ 13,077,000 $ (545,000) $ 47,949,000 $ 12,954,000
Issuance of common stock in
connection with acquisitions.. 155,000 2,000 4,589,000 -- -- 4,591,000 --
Exercise of stock options..... 221,000 2,000 2,996,000 -- -- 2,998,000 --
Tax benefit from exercise of
stock options................. -- -- 510,000 -- -- 510,000 --
Shareholder dividends......... -- -- -- (170,000) -- (170,000) --
Currency translation
adjustments................... -- -- -- -- (634,000) (634,000) $ (634,000)
Net loss...................... -- -- -- (6,590,000) -- (6,590,000) (6,590,000)
---------- -------- ----------- ----------- ----------- ----------- ------------
Balance at December 31, 1999.. 15,949,000 160,000 43,356,000 6,317,000 (1,179,000) 48,654,000 $ (7,224,000)
Issuance of common stock in
connection with acquisitions.. 100,000 1,000 -- -- -- 1,000 --
Spin-off distribution of
SeraNova common stock......... -- -- (7,733,000) 7,136,000 (107,000) (704,000) --
Exercise of stock options..... 581,000 5,000 5,743,000 -- -- 5,748,000 --
Currency translation
adjustments................... -- -- -- -- (953,000) (953,000) $ (953,000)
Net loss...................... -- -- -- (11,545,000) -- (11,545,000) (11,545,000)
---------- -------- ----------- ----------- ----------- ----------- ------------
Balance at December 31, 2000.. 16,630,000 166,000 41,366,000 1,908,000 (2,239,000) 41,201,000 $(12,498,000)
Currency translation
adjustments................... -- -- -- -- (1,826,000) (1,826,000) $ (1,826,000)
Net loss...................... -- -- -- (12,593,000) -- (12,593,000) (12,593,000)
---------- -------- ----------- ----------- ----------- ----------- ------------
Balance at December 31, 2001.. 16,630,000 $166,000 $41,366,000 $(10,685,000) $(4,065,000) $ 26,782,000 $(14,419,000)
========== ======== =========== ============ =========== ============ ============
The accompanying notes to consolidated financial statements are an integral part
of these statements.
F - 5
INTELLIGROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2001, 2000 and 1999
2001 2000 1999
------------ ------------ ------------
Cash flows from operating activities:
Net loss................................................. $(12,593,000) $(11,545,000) $(6,590,000)
Less: Loss from discontinued operations, net of tax...... -- (4,891,000) (1,261,000)
------------ ------------ -----------
Loss from continuing operations.......................... (12,593,000) (6,654,000) (5,329,000)
Adjustments to reconcile loss from continuing
operations to net cash provided by (used in)
operating activities of continuing operations:
Depreciation and amortization........................ 4,475,000 3,480,000 2,930,000
Provision for doubtful accounts...................... 1,821,000 3,293,000 4,742,000
Restructuring and other special charges.............. 13,261,000 -- --
Deferred income taxes................................ (430,000) 533,000 (1,430,000)
Tax benefit from exercise of stock options........... -- -- 510,000
Changes in operating assets and liabilities:
Accounts receivable.................................... 7,098,000 1,876,000 (1,823,000)
Unbilled services...................................... (1,603,000) 1,759,000 2,250,000
Prepaid income taxes................................... 42,000 3,228,000 (3,612,000)
Other current assets................................... 782,000 (2,121,000) 1,292,000
Other assets........................................... (8,000) 735,000 (120,000)
Accounts payable....................................... (3,299,000) 3,049,000 (1,021,000)
Accrued payroll and related taxes...................... (1,015,000) 953,000 312,000
Accrued expenses and other current liabilities......... 16,000 677,000 4,494,000
Accrued restructuring charges.......................... (574,000) (608,000) (4,679,000)
Deferred revenue....................................... 208,000 1,003,000 --
Income taxes payable................................... (200,000) (3,277,000) 940,000
------------ ------------ -----------
Net cash provided by (used in) operating activities
of continuing operations............................... 7,981,000 7,926,000 (544,000)
------------ ------------ -----------
Cash flows from investing activities:
Purchases of equipment ................................ (3,149,000) (3,212,000) (2,356,000)
Purchases of software licenses......................... (2,678,000) (3,957,000) --
------------ ------------ -----------
Net cash used in investing activities of continuing
operations............................................. (5,827,000) (7,169,000) (2,356,000)
------------ ------------ -----------
Cash flows from financing activities:
Principal payments under capital leases.................. (594,000) (117,000) (12,000)
Proceeds from exercise of stock options.................. -- 5,749,000 2,998,000
Shareholder dividends ................................... -- -- (170,000)
Other borrowings (repayments)............................ (36,000) 91,000 --
Net change in line of credit borrowings.................. (947,000) (5,572,000) 10,526,000
Net change in note receivable-SeraNova prior to
spin-off date.......................................... -- (6,662,000) (6,618,000)
Repayment of note receivable-SeraNova subsequent to
spin-off date........................................ 2,060,000 3,149,000 --
------------ ------------ -----------
Net cash provided by (used in) financing activities
of continuing operations............................. 483,000 (3,362,000) 6,724,000
------------ ------------ -----------
Effect of foreign currency exchange rate changes
on cash.............................................. (1,826,000) (953,000) (634,000)
------------ ------------ -----------
Net cash provided by (used in) continuing operations ...... 811,000 (3,558,000) 3,190,000
Net cash used in discontinued operations .................. -- (625,000) (1,248,000)
------------ ------------ -----------
Net increase (decrease) in cash and cash equivalents ...... 811,000 (4,183,000) 1,942,000
Cash and cash equivalents at beginning of period........... 1,327,000 5,510,000 3,568,000
------------ ------------ -----------
Cash and cash equivalents at end of period................. $ 2,138,000 $ 1,327,000 $ 5,510,000
============ ============ ===========
Supplemental disclosures of cash flow information:
Cash paid for income taxes............................... $ 1,216,000 $ 4,053,000 $ 3,850,000
============ ============ ===========
Cash paid for interest................................... $ 690,000 $ 608,000 $ 779,000
============ ============ ===========
Supplemental disclosures of non-cash transactions:
Issuance of common stock in connection with acquisitions. $ -- $ 1,000 $ 4,591,000
============ ============ ===========
The accompanying notes to consolidated financial statements are an integral part
of these statements.
F - 6
INTELLIGROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business and Operations
Intelligroup, Inc., and its subsidiaries (the "Company") provide a wide
range of high-quality, cost-effective information technology solutions and
services. These services and solutions include the development, integration,
implementation, management and support of enterprise, e-commerce and m-commerce
software applications to companies of all sizes. The Company markets its
services to a wide variety of industries, the majority of which are in the
United States. The majority of the Company's business is with large established
companies, including consulting firms serving numerous industries.
On July 5, 2000, the Company spun-off its Internet applications services
and management consulting businesses ("SeraNova"). This transaction resulted in
the distribution of SeraNova common stock to each holder of the Company's common
stock of record as of May 12, 2000. As a result of this transaction, the
Consolidated Financial Statements and related notes have been restated to
present the results of this business as discontinued operations (See Note 4).
The Company's 2002 operating plan contains assumptions regarding revenue
and expenses. The achievement of the operating plan depends heavily on the
timing of work performed by the Company on existing projects and the ability of
the Company to gain and perform work on new projects. Project cancellations,
delays in the timing of work performed by the Company on existing projects or
the inability of the Company to gain and perform work on new projects could have
an adverse impact on the Company's ability to execute its operating plan and
maintain adequate cash flow. In the event actual results do not meet the
operating plan, management believes it could execute contingency plans to
mitigate such effects. Such plans include additional cost reductions or seeking
additional financing. Considering the cash on hand, the credit facility and
based on the achievement of the operating plan and management's actions taken to
date, management believes it has the ability to continue to generate sufficient
cash to satisfy its operating requirements in the normal course of business.
However, no assurance can be given that sufficient cash will be generated from
operations.
Principles of Consolidation and Use of Estimates
The accompanying financial statements include the accounts of Intelligroup,
Inc. and its majority owned subsidiaries. All significant intercompany balances
and transactions have been eliminated.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the recorded amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
F - 7
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Reclassifications
Certain prior year amounts have been reclassified to conform to the 2001
presentation.
Cash and Cash Equivalents
Cash and cash equivalents consist of investments in highly liquid
short-term instruments, with maturities of three months or less from the date of
purchase.
Allowance for Doubtful Accounts
The Company provides an allowance for doubtful accounts arising from
services, which is based upon a review of outstanding receivables as well as
historical collection information. Credit is granted to substantially all
customers on an unsecured basis. In determining the amount of the allowance,
management is required to make certain estimates and assumptions. The provision
for doubtful accounts totaled $1,821,000, $3,293,000 and $4,742,000 in 2001,
2000 and 1999, respectively. Accounts written off totaled $1,809,000, $4,171,000
and $2,649,000 in 2001, 2000 and 1999, respectively.
Property and Equipment
Property and equipment is stated at cost, less accumulated depreciation.
Depreciation is provided using the straight-line method over the estimated
useful lives of the related assets (primarily three to five years). Leasehold
improvements are amortized over the shorter of the lease term or the estimated
useful life (ten years). Costs of maintenance and repairs are charged to expense
as incurred.
In 1999, the Company adopted Statement of Position 98-1 ("SOP 98-1"),
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use." SOP 98-1 requires the capitalization of direct costs incurred in
connection with developing or obtaining software for internal use, including
external direct costs of materials and services and payroll and payroll related
costs for employees who are directly associated with and devote time to an
internal-use software development project. The cost of the internal-use software
and the capitalized implementation-related costs are included within computer
software in property and equipment as of December 31, 2001 and 2000 (See Note
2). Such capitalized costs are amortized on a straight-line basis over the
software's estimated useful life of three years.
F - 8
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Intangible Assets
Net intangible assets as of December 31, 2000 included goodwill and other
intangibles totaling $4,732,000, which was attributable to the acquisition of
CPI Consulting (See Note 11). During the year ended December 31, 2001, the
Company recorded an impairment charge of $4,314,000 to write-off the unamortized
balance of these intangible assets, as part of the Company's efforts to
restructure the United Kingdom operations. The charge is included on the
Consolidated Statements of Operations in restructuring and other special
charges. These intangible assets were previously being amortized over the
estimated useful lives ranging from 5 to 15 years using the straight-line
method. Accumulated amortization was $1,044,000 as of December 31, 2000.
Amortization expense was $418,000, $456,000 and $441,000 in 2001, 2000 and 1999,
respectively.
In conjunction with the reorganization of the UK operations, the Company
performed an assessment of the carrying value of the intangible assets. The
analysis of intangible assets was conducted in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" guidelines and
involved a combination of financial forecasting and cash flow analysis. The
Company considered the recent trend in the UK operations of declining revenues
and increasing operating losses and the resulting impact on cash flows. The
Company also considered that certain key founders of CPI Consulting Limited have
left the Company to pursue other interests. Based upon the impairment test that
was conducted, the Company recorded an intangible asset impairment charge of
$4,314,000.
Other Assets
Other assets as of December 31, 2000 included the cost of purchased
computer software that was to be marketed to customers as a part of the
Company's ASPPlus solution. During the years ended December 31, 2001 and 2000,
the Company purchased $2,678,000 and $3,957,000, respectively, of such computer
software. However, during the year ended December 31, 2001, the Company recorded
an impairment charge of $6,044,000 to write-down the balance of such purchased
computer software. In the opinion of management, the recoverability of the
carrying value is unlikely given current and future expected market conditions.
For the years ended December 31, 2001 and 2000, no amortization expense was
recorded since the software had not yet been placed in service.
Recoverability of Long-Lived Assets
The Company reviews the recoverability of its long-lived assets on a
periodic basis whenever events and changes in circumstances have occurred which
may indicate a possible impairment. The assessment for potential impairment is
based primarily on the Company's ability to recover the carrying value of its
long-lived assets from expected future cash flows from its operations on an
undiscounted basis.
F - 9
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Revenue Recognition
The Company generates revenue from professional services rendered to
customers. The majority of the Company's revenue is generated under
time-and-material contracts whereby costs are generally incurred in proportion
with contracted billing schedules and revenue is recognized as services are
performed, with the corresponding cost of providing those services reflected as
cost of sales. The majority of customers are billed on an hourly or daily basis
whereby actual time is charged directly to the customer. Such method is expected
to result in reasonably consistent profit margins over the contract term.
The Company also recognizes revenue under certain unit-price and
fixed-price contracts. The Company follows the guidance contained in AICPA
Statement of Position ("SOP") 81-1, "Accounting for Performance of
Construction-Type and Certain Production-Type Contracts." SOP 81-1 requires the
use of percentage-of-completion accounting for long-term contracts that contain
enforceable rights regarding services to be provided and received by the
contracting parties, consideration to be exchanged, and the manner and terms of
settlement, assuming reasonably dependable estimates of revenue and expenses can
be made. The percentage-of-completion methodology generally results in the
recognition of reasonably consistent profit margins over the life of a contract.
Amounts recognized in revenue are calculated using the percentage of services
completed, on a current cumulative hours to total estimated hours basis.
Cumulative revenues recognized may be less or greater than cumulative costs and
profits billed at any point in time during a contract's term. The resulting
difference is included in deferred revenue.
Billings to customers for out-of-pocket expenses are recorded as a
reduction of expenses incurred. Unbilled services at December 31, 2001 and 2000
represent services provided through December 31, 2001 and 2000, respectively,
which are billed subsequent to year-end. All such amounts are anticipated to be
realized in the following year.
The adoption of Staff Accounting Bulletin No. 101, "Revenue Recognition in
Financial Statements," issued in December 1999, and effective during the fourth
quarter of 2000, did not have a material impact to the Company's accompanying
consolidated financial statements.
Stock-Based Compensation
Stock-based compensation issued to employees and directors is valued using
the intrinsic value method under Accounting Principles Board ("APB") Opinion No.
25, "Accounting for Stock Issued to Employees." For disclosure purposes, pro
forma net income (loss) and earnings (loss) per share impacts are provided as if
the fair market value method had been applied. Stock-based compensation issued
to non-employees is valued using the fair value method.
F - 10
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Currency Translation
Assets and liabilities relating to foreign operations are translated into
U.S. dollars using exchange rates in effect at the balance sheet date. Income
and expenses are translated into U.S. dollars using monthly average exchange
rates during the year. Translation adjustments associated with assets and
liabilities are excluded from income and credited or charged directly to
shareholders' equity.
Concentrations
For the years ended December 31, 2001, 2000 and 1999, approximately 69%,
63% and 54% of revenue, respectively, was derived from projects in which the
Company's personnel implemented, extended, maintained, managed or supported
software developed by SAP. The Company's future success in its SAP-related
consulting services depends largely on its continued relationship with SAP and
on its continued status as a SAP National Implementation Partner, which was
first obtained in 1995. The Company's agreement with SAP (the "Agreement") is
awarded on an annual basis. The Company's current contract expires on December
31, 2002 and is automatically renewed for successive one-year periods, unless
terminated by either party. This Agreement contains no minimum revenue
requirements or cost sharing arrangements and does not provide for commissions
or royalties to either party. In July 1997, the Company achieved Accelerated SAP
Partner Status with SAP by meeting certain criteria established by SAP.
Additionally, for each of the years ended December 31, 2001, 2000 and 1999,
approximately 17%, 24% and 33%, respectively, of revenue was derived from
projects in which the Company's personnel implemented, extended, maintained,
managed or supported software developed by PeopleSoft. For each of the years
ended December 31, 2001, 2000 and 1999, approximately 9% of the Company's total
revenue was derived from projects in which the Company implemented, extended,
maintained, managed or supported software developed by Oracle.
A substantial portion of the Company's revenue is derived from projects in
which an information technology consulting firm other than the Company has been
retained by the end-user organization to manage the overall project. For years
ended December 31, 2001, 2000 and 1999, 42%, 36% and 48%, respectively, of the
Company's revenue was generated by serving as a member of consulting teams
assembled by other information technology consulting firms.
During 2001, no single customer accounted for more than 10% of revenue or
accounts receivable. During 2000 and 1999, one customer accounted for
approximately 10% and 15% of revenue, respectively. Accounts receivable due from
this customer was approximately $2,979,000 as of December 31, 2000.
Income Taxes
Deferred income taxes are recognized for the tax consequences of temporary
differences between the financial statement and tax bases of assets and
liabilities, using enacted tax rates currently in effect. The Company does not
provide for additional U.S. income taxes on undistributed earnings considered to
be permanently invested in foreign subsidiaries.
F - 11
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Earnings Per Share
Basic earnings per share is computed by dividing income attributable to
common shareholders by the weighted average number of common shares outstanding
for the period. Diluted earnings per share is computed by dividing income (loss)
available to common shareholders by the weighted average number of common shares
outstanding, adjusted for the incremental dilution of outstanding stock options,
if applicable. The computation of basic earnings per share and diluted earnings
per share were as follows:
2001 2000 1999
------------- ------------ -------------
Loss from continuing operations............... $(12,593,000) $ (6,654,000) $ (5,329,000)
Loss from discontinued operations............. -- (4,891,000) (1,261,000)
------------ ------------ ------------
Net loss...................................... $(12,593,000) $(11,545,000) $ (6,590,000)
============ ============ ============
Basic and diluted earnings per share:
Weighted average number of common shares.... 16,630,000 16,485,000 15,766,000
------------ ------------ ------------
Basic and diluted loss per share from
continuing operations..................... $ (0.76) $ (0.40) $ (0.34)
Basic and diluted loss per share from
discontinued operations................... -- (0.30) (0.08)
------------ ------------ ------------
Basic and diluted net loss per share........ $ (0.76) $ (0.70) $ (0.42)
============ ============ ============
Stock options, which would be antidilutive (2,833,849, 3,369,746 and
3,927,280 as of December 31, 2001, 2000 and 1999, respectively) have been
excluded from the calculations of diluted shares outstanding and diluted
earnings per share.
Financial Instruments
Financial instruments that potentially subject the Company to credit risk
consist principally of trade receivables and unbilled services. Management of
the Company believes the fair value of accounts receivable and unbilled services
approximates the carrying value. The Company does not utilize derivative
instruments.
Recently Issued Accounting Standards
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations." SFAS No. 141 changes the accounting for business combinations,
requiring that all business combinations be accounted for using the purchase
method and that intangible assets be recognized as assets apart from goodwill if
they arise from contractual or other legal rights, or if they are separable or
capable of being separated from the acquired entity and sold, transferred,
licensed, rented or exchanged. SFAS No. 141 is effective for all business
combinations initiated after June 30, 2001.
F - 12
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 specifies the financial accounting and reporting for
acquired goodwill and other intangible assets. Goodwill and intangible assets
that have indefinite useful lives will not be amortized but rather will be
tested at least annually for impairment. SFAS No. 142 is effective for fiscal
years beginning after December 15, 2001. SFAS No. 142 requires that the useful
lives of intangible assets acquired on or before June 30, 2001 be reassessed and
the remaining amortization periods adjusted accordingly. Previously recognized
intangible assets deemed to have indefinite lives shall be tested for
impairment. Goodwill recognized on or before June 30, 2001, shall be assigned to
one or more reporting units and shall be tested for impairment as of the
beginning of the fiscal year in which SFAS No. 142 is initially applied in its
entirety. As of December 31, 2001, the Company had no recorded goodwill.
Therefore, the Company believes that the adoption of SFAS No. 142 will not have
a material impact on its financial position or results of operations.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 addresses financial accounting and
reporting obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS No. 143 is effective for
fiscal years beginning after June 14, 2002. The Company has evaluated the impact
of the adoption of SFAS No. 143, which is effective for the Company as of
January 1, 2003, and does not believe it will have a material impact on the
Company's financial position or results of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." SFAS No. 144 changes the
accounting for long-lived assets by requiring that all long-lived assets be
measured at the lower of carrying amount or fair value less cost to sell,
whether reporting continuing operations or in discontinued operations. SFAS No.
144, which replaces SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of," is effective for fiscal
years beginning after December 15, 2001. Management has evaluated the impact of
the adoption of SFAS No. 144, which is effective for the Company as of January
1, 2002, and does not believe it will have a material impact on the Company's
financial position or results of operations.
In November 2001, the Emerging Issues Task Force ("EITF") of the FASB
concluded that reimbursements received for "out-of-pocket" expenses should be
classified as revenue, and correspondingly cost of services, in the statement of
operations. Most service companies, whose employees incur incidental expenses
such as airfare, mileage, hotel and out-of-town meals while working on behalf of
customers, currently report reimbursements for "out-of-pocket" expenses on a
"net" basis in the statement of operations. The new reporting treatment requires
companies to report these reimbursements on a "gross" basis beginning in
financial reporting periods after December 15, 2001. The Company is still
evaluating the impact of the adoption of this EITF interpretation, which will
negatively impact gross margins, but does not believe it will have a material
impact on the Company's results of operations.
F - 13
NOTE 2 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following as of December 31:
2001 2000
-------------- --------------
Vehicles........................ $ 158,000 $ 156,000
Furniture....................... 3,347,000 3,392,000
Equipment....................... 10,520,000 10,152,000
Computer software............... 3,987,000 2,801,000
Leasehold improvements.......... 1,046,000 801,000
------------- -------------
19,058,000 17,302,000
Less-Accumulated depreciation... (10,959,000) (7,652,000)
------------- -------------
$ 8,099,000 $ 9,650,000
============= =============
Depreciation expense was $4,057,000, $3,024,000 and $2,489,000 (including
$780,000 $293,000 and $0 of depreciation expense recorded within cost of sales,
respectively) in 2001, 2000 and 1999, respectively.
NOTE 3 - LINES OF CREDIT
From January 29, 1999 until May 31, 2000, the Company had an unsecured
three-year $30.0 million revolving credit facility with PNC Bank, N.A. (the
"Bank"). The credit facility contained certain financial covenants in which the
Company was not in compliance with as of June 30, 1999 and September 30, 1999.
In January 2000, the Company finalized with the Bank the terms of a waiver and
amendment to the credit agreement to remedy defaults, which existed under the
credit agreement. However, the Company was not in compliance with the modified
financial covenants as of March 31, 2000. Accordingly, on May 9, 2000, the Bank
issued to the Company a waiver of the defaults, which existed under the credit
agreement for the quarter ended March 31, 2000.
On May 31, 2000, the Company and the Bank entered into an agreement to
replace the previous facility with a new three-year revolving credit facility.
Such credit facility is comprised of a revolving line of credit pursuant to
which the Company can borrow up to $20,000,000 either at the Bank's prime rate
per annum or the Euro Rate plus 1.75% to 2.5% based upon the Company's ratio of
debt to EBITDA. The credit facility is collateralized by substantially all of
the assets of the United States based operations. The maximum borrowing
availability under the line of credit is based upon a percentage of eligible
billed and unbilled accounts receivable, as defined. As of December 31, 2001,
the Company had outstanding borrowings under the credit facility of $4,066,000.
The Company estimates undrawn availability under the credit facility to be
$6,138,000 as of December 31, 2001. As of December 31, 2000, the Company had
outstanding borrowings under the credit facility of $5,013,000.
F - 14
NOTE 3 - LINES OF CREDIT (CONTINUED)
The credit facility provides for the following financial covenants, among
other things, (1) the Company must maintain consolidated net worth, as defined
("consolidated net worth") of (a) not less than 95% of the Company's
consolidated net worth of the immediately preceding fiscal year-end as at each
such fiscal quarter after December 31, 2000; and (b) at least 105% of the
Company's consolidated net worth as of the immediately preceding fiscal year-end
as at each such fiscal year-end subsequent to December 31, 2000; provided,
however, the foregoing covenant shall not be tested for any quarter so long as
the Company maintains, at all times during such fiscal quarter, undrawn
availability of more than $5,000,000 and (2) the Company must maintain
unconsolidated net worth, as defined ("unconsolidated net worth") of (a) not
less than 95% of the Company's unconsolidated net worth of the immediately
preceding fiscal year-end as at each such fiscal quarter after December 31,
2000; and (b) at least 105% of the Company's unconsolidated net worth as of the
immediately preceding fiscal year-end as at each such fiscal year-end subsequent
to December 31, 2000; provided, however, the foregoing covenant shall not be
tested for any quarter so long as the Company maintains, at all times during
such fiscal quarter, undrawn availability of more than $5,000,000. Additionally,
the credit facility contains material adverse change clauses with regard to the
financial condition of the assets, liabilities and operations of the Company.
As of December 31, 2001, the Company was not in compliance with the
consolidated net worth and unconsolidated net worth financial covenants. In
March 2002, the Company finalized with the Bank the terms of a waiver and
amendment to the credit agreement to remedy such defaults. The terms of the
waiver and amendment included, among other things, (1) a waiver of the covenant
defaults as of December 31, 2001, (2) a modification to the financial covenants
to require that consolidated net worth and unconsolidated net worth as of
December 31, 2002 be not less than 102% of consolidated net worth and
unconsolidated net worth, respectively, as of December 31, 2001, and (3) a new
financial covenant requiring that the Company generate earnings before interest,
taxes, depreciation and amortization ("EBITDA") of at least 90% of the prior
year's EBITDA. The Company believes that it will be in compliance with all
financial covenants throughout 2002.
Interest expense on debt and obligations under capital leases approximated
$690,000, $608,000 and $720,000 for the years ended December 31, 2001, 2000 and
1999, respectively.
NOTE 4 - DISCONTINUED OPERATIONS
In November 1999, the Company announced its intentions to spin off its
Internet applications services and management consulting business subject to
certain approvals and conditions. On January 1, 2000, the Company transferred
its Internet applications services and management consulting businesses to
SeraNova, a wholly-owned subsidiary of the Company on such date.
On March 14, 2000, SeraNova sold 831,470 shares of its common stock to four
institutional investors for $10,000,000. SeraNova granted certain demand and
piggyback registration rights to such investors.
F - 15
NOTE 4 - DISCONTINUED OPERATIONS (CONTINUED)
On July 5, 2000, the Company completed the tax-free spin-off of SeraNova by
distributing all of the outstanding shares of the common stock of SeraNova then
held by the Company to holders of record of the Company's common stock as of the
close of business on May 12, 2000 (or to their subsequent transferees) in
accordance with the terms of a Distribution Agreement dated as of January 1,
2000 between the Company and SeraNova. SeraNova represented a significant
segment of the Company's business.
Pursuant to APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," the Consolidated
Financial Statements of the Company have been reclassified to reflect the
spin-off of SeraNova. Accordingly, the results of operations and cash flows of
SeraNova have been segregated in the Consolidated Statements of Operations and
Consolidated Statements of Cash Flows. The net operating results and net cash
flows of SeraNova have been reported as "Discontinued Operations." The
historical carrying amount of the net assets of SeraNova on the spin-off date
has been recorded as a dividend.
The following is summarized financial information for the discontinued
operations of SeraNova:
JANUARY 1, 2000 TO YEAR ENDED
JULY 5, 2000 DECEMBER 31, 1999
------------------ -----------------
Revenue................................ $ 36,019,000 $ 39,795,000
Pre-tax loss........................... (6,986,000) (1,496,000)
Income tax benefit..................... (2,095,000) (235,000)
Loss from discontinued operations...... (4,891,000) (1,261,000)
JULY 5, 2000
-----------------
Current assets......................... $ 25,319,000
Total assets........................... 36,874,000
Note payable to Intelligroup........... 15,059,000
Current liabilities.................... 9,173,000
Total liabilities...................... 26,170,000
Net assets of discontinued operations.. 10,704,000
NOTE 5 - NOTE RECEIVABLE - SERANOVA
On May 31, 2000, SeraNova and the Company formalized a $15,100,000
unsecured promissory note (the "Note") relating to net borrowings by SeraNova
from the Company through such date. The Note bears interest at the prime rate
plus 1/2%. The Company has recorded total accrued interest of $940,000 and
$803,000 as of December 31, 2001 and 2000, respectively. The Company has not
recorded any accrued interest on the balance of the Note subsequent to the
maturity date of July 31, 2001. A payment of $3,000,000 was made on September
29, 2000 with the balance being due on July 31, 2001.
F - 16
NOTE 5 - NOTE RECEIVABLE - SERANOVA (CONTINUED)
In September 2000, SeraNova consummated an $8,000,000 preferred stock
financing with two institutional investors. According to the mandatory
prepayment provisions of the Note, SeraNova was required to make a prepayment of
$3,000,000 on the Note as a result of the stock financing. Subsequently, the
Company finalized, with SeraNova, the terms of an agreement to waive, subject to
certain conditions, certain of the mandatory prepayment obligations arising as a
result of the financing. The terms of the new agreement included, among other
things, that SeraNova pay the Company (i) $500,000 upon execution of the
agreement; (ii) $500,000 on or before each of January 31, 2001, February 28,
2001, March 31, 2001, April 30, 2001 and May 31, 2001; and (iii) $400,000 on or
before December 15, 2000 to be applied either as (a) an advance payment towards
a contemplated services arrangement for hosting services to be provided to
SeraNova by Company (the "Hosting Agreement"); or (b) in the event that no such
Hosting Agreement is executed on or before December 15, 2000, an additional
advance prepayment toward the principal of the Note.
The Company received from SeraNova the $500,000 payment that was due upon
execution of the agreement and a $400,000 payment in December 2000 as an advance
payment towards the principal of the Note since no Hosting Agreement was
executed before December 15, 2000.
In 2001, the Company received principal payments totaling $2,060,000 from
SeraNova. However, SeraNova failed to make final payment of all amounts due
under the Note to the Company as of July 31, 2001. On August 16, 2001, the
Company filed a complaint against SeraNova and Silverline Technologies Limited
("Silverline"), which acquired SeraNova in March 2001. As of such date, SeraNova
was obligated to pay to the Company the remaining principal (approximately
$9,140,000) and accrued interest (approximately $940,000), or an aggregate of
$10,080,000. Although management believes they are entitled to the entire
$10,080,000 balance, there can be no assurance that SeraNova and/or Silverline
will pay the entire balance due the Company. In the event the Company accepts a
payment in less than full satisfaction of the $10,080,000 due, the Company will
record a charge against earnings for such difference. The Company has not
recorded a reserve against the remaining balance of $10,080,000 under the Note
as of December 31, 2001, as the amount of loss, if any, cannot be reasonably
estimated. Management believes that SeraNova and/or Silverline have the ability
to pay the entire balance due. The resolution of this uncertainty could
materially impact the Company's consolidated financial position and results of
operations. In addition, SeraNova filed a counterclaim against the Company for
unspecified damages as a set-off against the Company's claims. In response to
the Company's request for a statement of damages, SeraNova stated that it was in
the process of calculating its damages, but for informational purposes claimed
compensatory damages in excess of $5,500,000 and punitive damages in the amount
of $10,000,000. The parties are currently proceeding with the discovery process.
The Company believes that there is no basis to support such amounts claimed by
SeraNova.
F - 17
NOTE 5 - NOTE RECEIVABLE - SERANOVA (CONTINUED)
In addition, on March 4, 2002, the Company filed an arbitration demand with
the American Arbitration Association against SeraNova and Silverline. The demand
for arbitration, which seeks damages, alleges among other things that SeraNova
and/or Silverline failed to pay outstanding lease obligations to the Company's
landlords and to reimburse the Company for all rent payments made by the Company
on their behalf. As of the date the arbitration demand was filed, the Company
claimed that the outstanding lease obligations totaled $236,010. The Company is
further seeking jurisdiction over further payment defaults by the respondents to
the Company and its landlords. The Company does not believe that the outcome of
this claim will have a materially adverse effect on the Company's business,
financial condition or results of operations.
NOTE 6 - RESTRUCTURING AND OTHER SPECIAL CHARGES
In connection with the Company's plan to reduce costs and improve operating
efficiencies, the Company incurred a non-recurring charge of $5,628,000 related
to restructuring initiatives during the year ended December 31, 1999. The
restructuring charge included settlement of the former chief executive officer's
employment agreement and additional severance payment, expenses associated with
the termination of certain employees in the United States and United Kingdom,
the closing of certain satellite offices in the United States and an additional
office in Belgium, and costs to exit certain contractual obligations.
During the year ended December 31, 2001, in an effort to further refine the
Company's business strategy around its core competencies and to refocus on more
active markets, the Company recorded a $13,261,000 restructuring and other
special charges provision. The charges, which were mainly non-cash in nature,
were related primarily to the ASP business in the United States, the termination
of an agreement to build and operate a technology development and support center
in Puerto Rico, and to the restructuring and downsizing of the Company's
operations in the United Kingdom ("UK").
The charges associated with the ASP business in the United States included
a write-down of approximately $6,044,000 in purchased computer software and
$469,000 in fixed assets, as well as $215,000 in severance costs and $152,000 in
exit costs. The Company determined that an impairment charge was required, since
the recoverability of the value of the computer software and fixed assets,
acquired for use in the ASP service offering, seemed unlikely given current and
future expected market conditions. The severance costs and exit costs relate to
the reduction of headcount associated with the ASP service offering.
F - 18
NOTE 6 - RESTRUCTURING AND OTHER SPECIAL CHARGES (CONTINUED)
The Company determined that it did not need the expanded capacity
associated with a planned technology development and support center in Puerto
Rico. Accordingly, the Company reached an agreement with the Government of
Puerto Rico to terminate the project and to cancel the associated grant and
other related contracts. As part of the termination agreement, the Company was
released from all future obligations related to the project, but in exchange had
to forego reimbursement of $1,307,000 in previously incurred operating costs and
fixed assets, which had already been paid for by the Company. Accordingly, the
Company recorded a charge of $1,307,000, which is included in restructuring and
other special charges in the Consolidated Statements of Operations.
Finally, the Company executed a plan to reorganize and downsize the
Company's operations in the UK. The restructuring costs included the write-down
of $4,314,000 of intangible assets and $172,000 of fixed assets, as well as
severance costs of $315,000 and exit costs of $273,000 associated with reducing
employee headcount in the region.
In conjunction with the reorganization of the UK operations, the Company
performed an assessment of the carrying value of the intangible assets. The
intangible asset balance, consisting primarily of goodwill and assembled
workforce, represents the excess purchase price associated with the acquisition
of CPI Consulting Limited during 1998. The analysis of intangible assets was
conducted in accordance with Statement of Financial Accounting Standards
("SFAS") No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of" guidelines and involved a combination of
financial forecasting and cash flow analysis. The Company considered the recent
trend in the UK operations of declining revenues and increasing operating losses
and the resulting impact on cash flows. The Company also considered that certain
key founders of CPI Consulting Limited have left the Company to pursue other
interests. Based upon the impairment test that was conducted, the Company
recorded an intangible asset impairment charge of $4,314,000.
Activity in accrued costs for restructuring and other special charges
during 1999, 2000 and 2001 is as follows:
SEVERANCE AND ASSET
RELATED COSTS IMPAIRMENTS EXIT COSTS TOTAL
----------------- ----------------- ------------------ -----------------
Charges to operations during 1999 $ 5,027,000 $ -- $ 601,000 $ 5,628,000
Costs paid during 1999 (4,162,000) -- (517,000) (4,679,000)
Accrued costs as of December 31, 1999 865,000 -- 84,000 949,000
Costs paid during 2000 (608,000) -- -- (608,000)
Accrued costs as of December 31, 2000 257,000 -- 84,000
341,000
Charges to operations during 2001 530,000 10,999,000 1,732,000 13,261,000
Costs paid during 2001 (402,000) -- (172,000) (574,000)
Non-cash utilization during 2001 -- (10,999,000) (1,177,000) (12,176,000)
Accrued costs as of December 31, 2001 $ 385,000 $ -- $ 467,000 $ 852,000
F - 19
NOTE 6 - RESTRUCTURING AND OTHER SPECIAL CHARGES (CONTINUED)
Additionally, in 1999 the Company recorded a reserve of $1,700,000 against
an outstanding receivable from a large ERP account, whose parent corporation
filed for protection under Chapter 11 of the U.S. bankruptcy laws.
NOTE 7 - INCOME TAXES
Income taxes provision (benefit) consists of the following:
2001 2000 1999
------------- -------------- --------------
Current:
Federal......... $ 636,000 $ (1,951,000) $ 2,310,000
State........... -- -- 345,000
Foreign......... 386,000 506,000 216,000
----------- ------------ -----------
1,022,000 (1,445,000) 2,871,000
----------- ------------ -----------
Deferred:
Federal......... (430,000) 872,000 (1,267,000)
State........... -- -- (163,000)
----------- ------------ -----------
(430,000) 872,000 (1,430,000)
----------- ------------ -----------
Total............... $ 592,000 $ (573,000) $ 1,441,000
=========== ============ ===========
The provision for income taxes differs from the amount computed by applying
the statutory rate of 34% to income before income taxes. The principal reasons
for this difference are:
2001 2000 1999
------ ------- ------
Tax at federal statutory rate............... (34)% (34)% (34)%
Nondeductible expenses...................... -- 1 2
State income tax, net of federal benefit.... -- -- 2
Foreign losses for which no benefit is
available................................... 25 7 3
Changes in valuation allowance.............. 8 16 67
Foreign operations taxed at less than U.S.
statutory rate, primarily India......... 10 2 5
S Corp and L.L.C. income passed through to
shareholders............................ -- -- (8)
Other....................................... (4) -- --
---- ----- -----
Effective tax rate.......................... 5% (8)% 37%
==== ===== =====
In 1996, the Company elected a five-year tax holiday in India in accordance
with a local tax incentive program whereby no income taxes will be due for such
period. Such tax holiday was extended for an additional five years in 1999.
Effective April 1, 2000 pursuant to changes introduced by the Indian Finance
Act, 2000, the tax holiday previously granted is no longer available and has
been replaced in the form of a tax deduction incentive. The impact of this
change is not expected to be material to the consolidated financial statements
of the Company. Prior to their acquisition, the Empower Companies (see Note 11)
were pass-through entities for tax reporting purposes, thus their income was not
taxed at the corporate level. Accordingly, the Company's federal statutory tax
rate was reduced by 8% for 1999.
F - 20
NOTE 7 - INCOME TAXES (CONTINUED)
Deferred income taxes reflect the tax effect of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The significant
components of the Company's deferred tax assets and liabilities as of December
31, 2001 and 2000 are as follows:
2001 2000
-------------- -------------
Deferred tax assets:
Allowance for doubtful accounts................. $ 731,000 $ 742,000
Vacation accrual................................ 326,000 122,000
Net operating losses............................ 6,688,000 4,372,000
Other accrued liabilities....................... 293,000 484,000
------------- -------------
Total deferred tax assets......................... 8,038,000 5,381,000
Deferred tax liability-accelerated depreciation... (621,000) (1,040,000)
Valuation allowance............................... (5,845,000) (3,538,000)
------------- -------------
Net deferred tax asset............................ $ 1,572,000 $ 1,142,000
============= =============
During 2001 and 2000, the Company generated operating losses. The Company
has provided a valuation allowance against certain of these net operating
losses, as the ability to utilize these losses may be limited in the future. Net
operating loss carryforwards expire in various years through 2021. Although the
realization of the net deferred tax assets is not assured, management believes
it is more likely than not, that the 2001 net deferred tax asset of $1,572,000
will be realized.
NOTE 8 - COMMITMENTS AND CONTINGENCIES
Tax-Free Spin-off of SeraNova
On July 5, 2000, the Company distributed SeraNova common stock to
shareholders in a transaction that was intended to be a tax-free spin-off
pursuant to Section 355 of the Internal Revenue Code ("Section 355") (See Note
4). If the distribution qualifies as a tax-free spin-off, neither the Company
nor the Company's shareholders recognize any gain or income in connection with
the transaction. However, Section 355 provides that the Company may be required
to recognize a gain on the transaction if the distribution is part of a plan
pursuant to which one or more persons acquire 50% or more of SeraNova common
stock within two years of the distribution date. The Company and SeraNova
executed a Tax Sharing Agreement, dated January 1, 2000 ("Tax Sharing
Agreement"), whereby SeraNova would indemnify the Company for any tax
liabilities in the event a future transaction of SeraNova results in the
spin-off being deemed a taxable event.
F - 21
NOTE 8 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
On October 27, 2000, SeraNova and Silverline Technologies Limited
("Silverline") announced that they had entered into an agreement and plan of
merger, under which Silverline would acquire SeraNova in exchange for American
depositary shares of Silverline and the assumption by Silverline of SeraNova
indebtedness. However, SeraNova management has represented that the merger with
Silverline was not contemplated at the time of the spin-off and accordingly, the
spin-off should be tax-free. Should the spin-off ultimately be construed as
taxable, the resultant tax liability could be up to $65,000,000, plus interest
and, depending on the facts that ultimately are established, penalties. SeraNova
and/or Silverline would be obligated to indemnify the Company for these amounts
under the Tax Sharing Agreement.
Employment Agreements
As of December 31, 2001, the Company had employment agreements with certain
of its executives, which provide for minimum payments in the event of
termination for reasons other than just cause. The aggregate amount of
compensation commitment in the event of termination under such agreements is
approximately $550,000.
Leases
The Company leases office space, office equipment and vehicles under
capital and operating leases that have initial or remaining non-cancelable lease
terms in excess of one year as of December 31, 2001. Future minimum aggregate
annual lease payments are as follows:
FOR THE YEARS
ENDING DECEMBER 31, CAPITAL OPERATING
------------------- ------- ---------
2002.......................... $ 727,000 $2,162,000
2003.......................... 383,000 1,670,000
2004.......................... -- 1,421,000
2005.......................... -- 1,038,000
2006.......................... -- 980,000
Thereafter.................... -- 1,397,000
----------
Subtotal...................... 1,110,000
Less-Interest................. 93,000
----------
1,017,000
Less-Current Portion.......... 646,000
----------
$ 371,000
==========
Rent expense for the years ended December 31, 2001, 2000 and 1999 was
$4,647,000, $3,940,000 and $4,340,000, respectively.
F - 22
NOTE 8 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
Tax Contingency in India
The Company's Indian subsidiary has received an assessment from the Indian
taxing authority denying tax exemptions claimed for certain of their fiscal year
March 31, 1998 revenue. The assessment is for 20 million rupees, or
approximately $417,000. Management, after consultation with its advisors,
believes the Company is entitled to the tax exemption claimed and thus has not
recorded a liability as of December 31, 2001. If the Company is not successful
with its appeal, which was filed in 2001, a future charge of approximately
$417,000 would be recorded and reflected in the Company's consolidated statement
of operations.
Legal
On February 7, 2001, NSA Investments II LLC filed a complaint in the United
States District Court for the District of Massachusetts naming, among others,
SeraNova, the Company and Rajkumar Koneru, a director of the Company, as
defendants. The plaintiff alleges that it invested $4,000,000 in SeraNova as
part of a private placement of SeraNova common stock in March 2000, prior to the
spin-off of SeraNova by the Company. The complaint, which seeks compensatory and
punitive damages, alleges that the Company, as a "controlling person" of
SeraNova, is jointly and severally liable with and to the extent as SeraNova for
false and misleading statements constituting securities laws violations. After
being served with the complaint, the Company made a request for indemnification
from SeraNova pursuant to the various inter-company agreements in connection
with the spin-off. By letter dated April 13, 2001, SeraNova's counsel, advised
the Company that SeraNova acknowledged liability for such indemnification claims
and has elected to assume the defense of the plaintiff's claims. In October
2001, the motion to dismiss, filed on behalf of the Company in May 2001, was
denied without prejudice to refile at the close of the discovery period.
Court-ordered mediation between the plaintiff and SeraNova during January and
February 2002 was unsuccessful. In January 2002, plaintiff filed a motion for
partial summary judgment as to certain claims against SeraNova. No summary
judgment motion was filed against the Company. SeraNova filed its opposition to
plaintiff's motion for partial summary against the Company. SeraNova filed its
opposition to plaintiff's motion for partial summary judgment in February 2002.
Such motion for partial summary judgment is expected to be heard in April. The
Company denies the allegations made and intends to defend vigorously the claims
made by the plaintiff. It is too early in the dispute process to determine the
impact, if any, that such dispute will have upon the Company's business,
financial condition or results of operations.
The Company is engaged in other legal and administrative proceedings.
Except for the litigation related to the SeraNova Note (See Note 5), management
believes the outcome of these proceedings will not have a material adverse
effect on the Company's consolidated financial position or results of
operations.
F - 23
NOTE 9 - STOCK OPTION PLANS
The Company's stock option plans permit the granting of options to
employees, non-employee directors and consultants. The Option Committee of the
Board of Directors generally has the authority to select individuals who are to
receive options and to specify the terms and conditions of each option so
granted, including the number of shares covered by the option, the type of
option (incentive stock option or non-qualified stock option), the exercise
price, vesting provisions, and the overall option term. A total of 5,340,000
shares of common stock have been reserved for issuance under the plans. All of
the options issued pursuant to these plans expire ten years from the date of
grant.
WEIGHTED AVERAGE
NUMBER OF SHARES EXERCISE PRICE
- -------------------------------------------------------------------------------
Options Outstanding, December 31, 1998
(262,156 exercisable)................... 1,899,141 $ 14.14
Granted................................. 3,465,759 $ 8.82
Exercised............................... (220,645) $ 13.47
Canceled................................ (1,216,975) $ 14.00
- -------------------------------------------------------------------------------
Options Outstanding, December 31, 1999
(336,090 exercisable).................. 3,927,280 $ 9.55
Granted................................. 4,842,931 $ 4.94
Exercised............................... (581,450) $ 10.06
Canceled................................ (4,819,015) $ 9.31
- -------------------------------------------------------------------------------
Options Outstanding, December 31, 2000
(1,038,275 exercisable)................. 3,369,746 $ 3.18
Granted................................. 157,810 $ 1.07
Exercised............................... -- $ --
Canceled................................ (693,707) $ 3.41
- -------------------------------------------------------------------------------
Options Outstanding, December 31, 2001
(1,658,764 exercisable)................. 2,833,849 $ 3.10
=========== ===========
Effective with the spin-off of SeraNova on July 5, 2000, all unvested
Intelligroup stock options held by SeraNova employees were canceled.
Additionally, as of July 6, 2000, the exercise price of all employee and
director stock options was adjusted to offset the reduction in option value
caused by the spin-off of SeraNova. The exercise price of each stock option
grant outstanding as of July 5, 2000, was adjusted based on the percentage
change in closing price of the Company's stock on the distribution date of July
5, 2000, and the ex-dividend date of July 6, 2000. In accordance with FASB
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation," the Company has concluded that there are no accounting
consequences for changing the exercise price of outstanding stock options as a
result of the spin-off.
F - 24
NOTE 9 - STOCK OPTION PLANS (CONTINUED)
The following table summarizes information about stock options outstanding
and exercisable at December 31, 2001:
Outstanding Exercisable
------------------------------------------------- ------------------------------------
Weighted
Average Weighted Weighted
Exercise Price Number Remaining Life Average Number of Average
Range of shares (in years) Exercise Price shares Exercise Price
- ----------------------------------------------------------------------------- ------------------------------------
$0.750 to 0.999 18,000 9.5 $ 0.956 -- $ --
$1.000 to 1.499 150,250 9.0 $ 1.108 31,059 $ 1.125
$1.500 to 2.249 317,090 8.0 $ 2.059 152,347 $ 2.073
$2.250 to 2.749 889,788 7.6 $ 2.544 664,401 $ 2.544
$2.750 to 2.999 904,500 5.5 $ 2.800 601,500 $ 2.799
$3.000 to 4.499 289,560 7.8 $ 4.295 89,897 $ 4.141
$4.500 to 6.749 181,341 7.0 $ 5.277 85,409 $ 5.366
$6.750 to 9.999 28,237 8.1 $ 8.620 8,442 $ 8.610
$10.000 to 13.749 55,083 7.9 $ 12.881 25,709 $ 13.090
--------- ---- -------- --------- ---------
$0.75 to 13.749 2,833,849 7.1 $ 3.10 1,658,764 $ 2.993
========= =========
As permitted by SFAS 123, the Company has chosen to continue accounting for
stock options issued to employees and directors at their intrinsic value.
Accordingly, no compensation cost has been recognized for the stock option
plans. Had compensation cost for the Company's stock option plans been
determined based on the fair value option pricing method, the tax-effective
impact would be as follows:
2001 2000 1999
- ----------------------------------------------------------------------------------------------
Net (Loss) Income:
as reported................ $(12,593,000) $(11,545,000) $ (6,590,000)
pro forma.................. $(22,894,000) $(31,990,000) $(14,975,000)
- ----------------------------------------------------------------------------------------------
Basic and Diluted Earnings per
Share:
as reported................ $ (0.76) $ (0.70) $ (0.42)
pro forma.................. $ (1.38) $ (1.94) $ (0.95)
The fair value of option grants for disclosure purposes is estimated on the
date of grant using the Black-Scholes option-pricing model using the following
weighted-average assumptions: expected volatility of 110%, 121% and 82%,
risk-free interest rate of 3.3%, 5.2% and 5.6% and expected lives of 2.7, 3.4
and 2.9 years, in 2001, 2000 and 1999, respectively. The weighted average fair
value of options granted during 2001, 2000 and 1999 was $0.70, $4.68 and $9.75,
respectively.
F - 25
NOTE 10 - STOCK RIGHTS
In October 1998 the Company's Board of Directors declared a dividend
distribution of one Preferred Share Purchase Right ("Rights") for each
outstanding share of the Company's common stock. These Rights will expire in
November 2008 and trade with the Company's common stock. Such Rights are not
presently exercisable and have no voting power. In the event a person or
affiliated group of persons, acquires 20% or more, or makes a tender or exchange
offer for 20% or more of the Company's common stock, the Rights detach from the
common stock and become exercisable and entitle a holder to buy one
one-hundredth (1/100) of a share of preferred stock at $100.00.
If, after the Rights become exercisable, the Company is acquired or merged,
each Right will entitle its holder to purchase $200.00 market value of the
surviving company's stock for $100.00, based upon the current exercise price of
the Rights. The Company may redeem the Rights, at its option, at $.01 per Right
prior to a public announcement that any person has acquired beneficial ownership
of at least 20% of the Company's common stock. These Rights are designed
primarily to encourage anyone interested in acquiring the Company to negotiate
with the Board of Directors.
NOTE 11 - ACQUISITIONS
On February 16, 1999, the Company acquired Empower Solutions, L.L.C. and
its affiliate Empower, Inc. (a corporation organized under sub-chapter S of the
Internal Revenue Code). The acquisitions were accounted for as poolings of
interests. In connection with these acquisitions, the Company issued
approximately 2,000,000 shares of the Company's common stock. In connection with
the mergers, acquisition expenses of $2,115,000 were expensed during 1999. These
costs primarily relate to professional fees incurred.
On May 7, 1998, the Company acquired thirty percent of the outstanding
share capital of CPI Consulting Limited. This acquisition was accounted for
utilizing the purchase method of accounting. The consideration paid by the
Company included the issuance of 165,696 shares of the Company's common stock
with a fair market value of $3,100,000 at the time of purchase. An additional
155,208 shares of the Company's common stock with a fair market value of
$2,500,000 was paid during 1999 pursuant to an earn-out relating to the
operating results for the balance of 1998. The excess of purchase price over the
fair value of the net assets acquired was attributed to intangible assets,
amounting in the aggregate to $5,800,000.
NOTE 12 - RELATED PARTY TRANSACTIONS
During 2001, 2000 and 1999, the Company provided services to FirePond,
which produced revenues for the Company totaling approximately $156,000,
$307,000 and $58,000, respectively. A member of the Company's Board of
Directors, Klaus P. Besier, serves as the Chief Executive Officer of FirePond.
The Company provided implementation services to various end clients, as a
sub-contractor to FirePond. Services were priced at rates comparable to other
similar sub-contracting arrangements in which the Company regularly
participates.
F - 26
NOTE 12 - RELATED PARTY TRANSACTIONS (CONTINUED)
On May 30, 2001, the Company advanced the amount of $60,000 to Nagarjun
Valluripalli, the Chief Executive Officer and a Director of the Company, with
the intent that such amount would be applied against any performance bonus due
Mr. Valluripalli for the full year 2001. In connection with such arrangement,
the parties executed a compensation advance agreement executed by Mr.
Valluripalli in favor of the Company (the "Compensation Advance"). The
Compensation Advance provides, among other things, for (i) repayment of the
outstanding principal amount of the Compensation Advance on or before May 22,
2002; (ii) the accrual of no interest on amounts outstanding under the
Compensation Advance during the period of Mr. Valluripalli's employment with the
Company; and (iii) the accrual of interest on amounts outstanding under the
Compensation Advance at a rate per annum equal to the Federal Funds Effective
Rate announced by the Federal Reserve Bank of New York, in the event of and
following the termination of Mr. Valluripalli's employment with the Company. The
largest aggregate amount of indebtedness outstanding at any time during the term
of the Compensation Advanced was $60,000. In March 2002, the Compensation
Committee of the Company's Board of Directors approved a full year 2001 bonus
for Mr. Valluripalli in an amount of up to $200,000.
NOTE 13 - SEGMENT DATA AND GEOGRAPHIC INFORMATION
The Company operates in one industry, information technology solutions and
services. The Company has four reportable operating segments, which are
organized and managed on a geographical basis, as follows:
o United States ("US") - the largest segment of the Company, with
operations in the United States and Puerto Rico. Includes the
operations of the Company's US subsidiary, Empower, Inc., and all
corporate functions and activities. The US and corporate headquarters
are located in Edison, New Jersey;
o Asia-Pacific ("APAC") - includes the operations of the Company in
Australia, Hong Kong, Indonesia, Japan, New Zealand and Singapore. The
APAC headquarters are located in Wellington, New Zealand;
o Europe - includes the operations of the Company in Denmark, Sweden and
the United Kingdom. The European headquarters are located in Norfolk,
United Kingdom; and
o India - includes the operations of the Company in India, Jamaica and
the United Arab Emirates. The Indian headquarters are located in
Hyderabad, India.
F - 27
NOTE 13 - SEGMENT DATA AND GEOGRAPHIC INFORMATION (CONTINUED)
Each of the operating segments has a Managing Director, or equivalent
position, which reports directly to the Chief Executive Officer (CEO).
Currently, the CEO is fulfilling the requirements of this position in the US.
The CEO has been identified as the Chief Operating Decision Maker (CODM) because
he has final authority over resource allocation decisions and performance
assessment. The CODM regularly receives certain discrete financial information
about the geographical operating segments, including primarily revenue and
operating income, to evaluate segment performance.
Accordingly, the Company's operating results and financial position are
presented in the following geographic segments for the years ended December 31,
2001, 2000 and 1999.
UNITED STATES ASIA-PACIFIC EUROPE INDIA TOTAL
------------- ------------ ------ ----- -----
2001
- ----
Revenue....................... $ 72,285,000 $ 12,757,000 $ 10,636,000 $ 12,428,000 $ 108,106,000
Depreciation & amortization... 2,167,000 253,000 684,000 591,000 3,695,000 (1)
Operating income (loss)....... (6,991,000) 368,000 (8,495,000) 3,078,000 (12,040,000)(2)
Total assets.................. 35,175,000 4,788,000 2,183,000 5,403,000 47,549,000
2000
- ----
Revenue....................... $ 77,814,000 $ 10,806,000 $ 17,844,000 $ 6,374,000 $ 112,838,000
Depreciation & amortization... 2,023,000 145,000 697,000 322,000 3,187,000 (3)
Operating income (loss)....... (6,228,000) 81,000 (1,741,000) 91,000 (7,797,000)
Total assets.................. 44,749,000 5,918,000 9,309,000 7,392,000 67,368,000
1999
- ----
Revenue....................... $105,898,000 $ 8,911,000 $ 24,585,000 $ 6,878,000 $ 146,272,000
Depreciation & amortization... 1,675,000 156,000 807,000 292,000 2,930,000
Operating income (loss)....... (6,133,000) (483,000) 473,000 2,768,000 (3,375,000)
Total assets.................. 53,821,000 3,362,000 12,135,000 3,261,000 72,579,000 (4)
- ---------
(1) Excludes $780,000 of depreciation and amortization included in cost of
sales for the year ended December 31, 2001.
(2) Includes $13,261,000 of restructuring and other special charges for the
year ended December 31, 2001. Of the total restructuring and other
special charge, approximately $8,187,000 and $5,074,000 are included
within the operating losses of the United States and Europe,
respectively.
(3) Excludes $293,000 of depreciation and amortization included in cost of
sales for the year ended December 31, 2000.
(4) Excludes $7,621,000 of net assets of discontinued operations as of
December 31, 1999.
Included above is application maintenance and support revenues of
$23,240,000, $20,173,000 and $1,747,000 for the years ended December 31, 2001,
2000 and 1999, respectively. Other information related to the application
maintenance and support business is not available and the Company determined
that it would be impractical to calculate such data.
F - 28
NOTE 14 -QUARTERLY INFORMATION (UNAUDITED)
FISCAL YEAR QUARTERS
--------------------------------------------------------------------------------------
FIRST SECOND THIRD FOURTH TOTAL
--------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 2001
- ----------------------------
Revenue................................. $30,037,000 $28,027,000 $25,112,000 $24,930,000 $108,106,000
Gross margin............................ 9,165,000 9,387,000 8,641,000 7,929,000 35,122,000
Net income (loss)....................... 188,000 179,000 146,000 (13,106,000) (12,593,000)
Earnings per share - basic and diluted:
Net income (loss) per share............. 0.01 0.01 0.01 (0.79) (0.76)
YEAR ENDED DECEMBER 31, 2000
- ----------------------------
Revenue................................. $29,051,000 $27,689,000 $27,599,000 $28,499,000 $112,838,000
Gross margin............................ 9,867,000 9,199,000 9,440,000 8,888,000 37,394,000
Loss from continuing operations......... (2,108,000) (2,891,000) (1,182,000) (473,000) (6,654,000)
Loss from discontinued operations....... (3,079,000) (1,812,000) -- -- (4,891,000)
Net loss................................ (5,187,000) (4,703,000) (1,182,000) (473,000) (11,545,000)
Earnings per share - basic and diluted:
Loss per share from continuing
operations......................... (0.13) (0.17) (0.07) (0.03) (0.40)
Loss per share from discontinued
operations......................... (0.19) (0.11) -- -- (0.30)
Net loss per share...................... (0.32) (0.28) (0.07) (0.03) (0.70)
F - 29