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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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, 2004
Commission File Number 0-22903
SYNTEL, INC.
(Exact name of Registrant as specified in its charter)
Michigan 38-2312018
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
525 E, Big Beaver Road, Suite 300, Troy, Michigan 48083
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (248) 619-2800
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
(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 such shorter period that the
Registrant has been required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes [X]
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. [ ]
Indicate by check mark whether the Registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). Yes [X] No [ ]
The aggregate market value of the Common Stock held by non-affiliates
of the Registrant as of the last business day of the Registrant's most recently
completed second fiscal quarter, June 30, 2004, based on the last sale price of
$16.55 per share for the Common Stock on The Nasdaq National Market on such
date, was approximately $126,542,260
As of February 24, 2005, the Registrant had 40,566,513 shares of
Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Registrant's Proxy Statement for the 2005 Annual Meeting of
Shareholders to be held on or about June 2, 2005 are incorporated by reference
into Part III hereof.
SYNTEL INC.
FORM 10-K
INDEX
PART I
ITEM 1. BUSINESS
ITEM 2. PROPERTIES
ITEM 3. LEGAL PROCEEDINGS
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9B. OTHER INFORMATION
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
ITEM 11. EXECUTIVE COMPENSATION
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
SIGNATURES
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PART I
ITEM 1. BUSINESS.
References herein to the "Company" or "Syntel" refer to Syntel, Inc. and its
wholly owned subsidiaries worldwide on a consolidated basis.
FORWARD-LOOKING STATEMENTS
This report on Form 10-K, including without limitation the Business
section and Management's Discussion and Analysis of Financial Condition and
Results of Operations, and other sections of this report, including the
allowance for doubtful accounts, contingencies and litigation, potential tax
liabilities, interest rate or foreign currency risks, and projections regarding
our liquidity and capital resources, could be construed as forward looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
Forward-looking statements include statements containing words such as "could",
"expects", "may", "anticipates", "believes", "estimates", "plans", and similar
expressions. In addition, the Company or persons acting on its behalf may, from
time to time, publish other forward-looking statements. Such forward looking
statements are based on management's estimates, assumptions and projections and
are subject to risks and uncertainties that could cause actual results to
differ materially from those discussed in the forward looking statements. Some
of the factors that could cause future results to materially differ from the
recent results or those projected in the forward-looking statements include the
following:
o Recruitment and Retention of IT Professionals
o Government Regulation of Immigration
o Variability of Quarterly Operating Results
o Customer Concentration; Risk of Termination
o Exposure to Regulatory and General Economic Conditions in India
o Intense Competition
o Ability to Manage Growth
o Fixed-Price Engagements
o Potential Liability to Customers
o Dependence on Key Personnel
o Risks Related to Possible Acquisitions
o Limited Intellectual Property Protection
o Potential Anti-Outsourcing Legislation
o Adverse Economic Conditions
o Failure to Successfully Develop and Market New Products and
Services
o Benchmarking Provisions
o Corporate Governance Issues
o Telecom/Infrastructure Issues
o Confidentiality Issues
o New Facilities
o Stock Option Accounting
o Terrorist Activity, War or Natural Disasters
o Instability and Currency Fluctuations
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For a more detailed discussion of certain of the risks associated with
the Company's business, see the "Risk Factors" section of this Form 10-K. The
Company undertakes no obligation to update forward-looking statements to
reflect events or circumstances occurring after the date of this Form 10-K.
OVERVIEW
Syntel, incorporated under Michigan law on April 15, 1980, is a
worldwide provider of information technology services to Global 2000 companies.
The Company's service offerings are grouped into four segments, Applications
Outsourcing, e-Business, Business Process Outsourcing (BPO) and
TeamSourcing(R). Applications Outsourcing consists of outsourcing services for
ongoing management, development and maintenance of business applications.
e-Business consists of practice areas in Web Solutions, Customer Relationship
Management (CRM), Data Warehousing/Business Intelligence, and Enterprise
Applications Integration (EAI) services. BPO consists of a variety of back
office outsourced services such as transaction processing, loan servicing,
retirement processing, and collections and payment processing. Syntel's primary
BPO focus is in the financial services, healthcare and insurance sectors.
TeamSourcing consists of professional Information Technology (IT) consulting
services. Syntel believes that its service offerings are distinguished by its
Global Delivery Model, a corporate culture focused on customer- service,
responsiveness and its own internally-developed "intellectual capital", which
is based on a proven set of methodologies, practices and tools for managing the
IT functions of its customers.
Through Applications Outsourcing, Syntel provides high-value
applications management services for ongoing management, development and
maintenance of customers' business applications. Syntel assumes responsibility
for and manages selected application support functions for the customer.
Utilizing its developed methodologies, processes and tools, the Company is able
to assimilate the customer's business process knowledge in order to develop and
deliver services specifically tailored for that customer. In 2004, 2003 and
2002, Applications Outsourcing services accounted for approximately 76%, 76%
and 71% of total consolidated revenues, respectively.
Through its e-Business practices, Syntel helps its customers harness
advanced technologies to improve their businesses. Web Solutions involve
services in the areas of web architecture, web-enabling legacy applications, as
well as the creation of web portals. Customer Relationship Management (CRM)
involves customizing and implementing CRM software packages to enhance a
customer's interaction with its customers. Data Warehousing/Business
Intelligence involves gathering and analyzing key business data to make better
real-time decisions through "data mining." Enterprise Applications Integration
involves consulting and Applications Outsourcing services designed to better
integrate front office and back-office applications. Additionally, Syntel has
entered into several partnerships to provide it's implementation,
customization, migration and maintenance services with leading software and IT
application software infrastructure providers including BEA Systems, IBM,
Informatica, Microsoft, Oracle, Sun, TIBCO, Microstrategy, Cognos, Identify,
Mercury, Borland, Citrix, Broadvision and Vianeta, among others. These
partnerships will provide the Company with increased opportunities for market
penetration. In 2004, 2003 and 2002, e-Business accounted for approximately
16%, 19% and 20% of total consolidated revenues, respectively.
Through BPO, Syntel provides outsourced solutions for a client's
business processes, providing them with the advantage of a low cost
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position and process enhancement through optimal use of technology. Syntel uses
a proprietary tool called IdenteonTM to assist with strategic assessments of
business processes and identifying the right ones for outsourcing. In the area
of financial services, Syntel focuses on the middle and back-office business
processes of the transaction cycle. Syntel's Healthcare BPO services include
aspects associated with revenue cycle management, including claim appeals,
provider enrollment assistance, payment posting and coding. Syntel's insurance
BPO services include claims processing, policy administration, among others.
BPO accounted for approximately 1% of revenues for the year ended December 31,
2004.
Through TeamSourcing, Syntel provides professional IT consulting
services directly to customers. TeamSourcing services include systems
specification, design, development, implementation and maintenance of complex
IT applications involving diverse computer hardware, software, data and
networking technologies and practices. TeamSourcing services are provided by
individual professionals and teams of professionals dedicated to assisting
customer IT departments with systems projects and ongoing functions.
TeamSourcing accounted for approximately 7%, 5% and 9% of revenues, for the
years ended December 31, 2004, 2003 and 2002, respectively.
The information set forth under Note 17 "Segment Reporting" to the
Consolidated Financial Statements attached as an exhibit to this Annual Report
on Form 10-K is incorporated here by reference.
The Company's Global Delivery Service provides Syntel with flexibility
to deliver to each customer a unique mix of services on-site at the customer's
location, off-site at Syntel's U.S. locations and offshore at Global
Development Centers in Mumbai, Chennai and Pune, India. The benefits to the
customer from this customized service approach include responsive delivery
based on an in-depth understanding of the specific processes and needs of the
customer, quick turnaround, access to the most knowledgeable personnel and best
practices, resource depth, 24-hour support seven days a week and
cost-effectiveness. By linking each of its service locations together through a
dedicated data and voice network, Syntel provides a seamless service capability
to its customers around the world largely unconstrained by geography, time
zones or cultures.
Syntel provides its services to a broad range of Global 2000 companies
principally in the financial services, manufacturing, retail, transportation
and information/communications industries, as well as to government entities.
Its five largest customers during 2004, based on revenues were American
Express, Wells Fargo, Daimler Chrysler, Humana and CNA Commercial Lines. The
Company has been chosen as a preferred vendor by several of its customers and
has been recognized for its quality and responsiveness. The Company has a
focused sales effort that includes a strategy of migrating existing
TeamSourcing customers to higher-value e-Business and Applications Outsourcing
services. During recent years, the Company has focused on increasing its
resources in the development, marketing and sales of its e-Business and
Applications Outsourcing services.
The Company believes its human resources are its most valuable asset
and invests significantly in programs to recruit, train and retain IT
professionals. The Company recruits globally through its worldwide recruiting
network and maintains a broad package of employee support programs. Syntel
believes that its management structure and human resources organization is
designed to maximize the Company's ability to efficiently expand its IT
professional staff in response to customer needs. As of
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December 31, 2004, Syntel's worldwide billable headcount consisted of 3,172 IT
consultants providing professional services to Syntel's customers.
The information set forth under Note 18 "Geographic Information" to
the Consolidated Financial Statements attached as an exhibit to this Annual
Report on Form 10-K is incorporated here by reference.
RISK FACTORS
The following factors should be considered carefully when evaluating our
business.
RECRUITMENT AND RETENTION OF IT PROFESSIONALS. The Company's business of
delivering professional IT services is labor intensive, and, accordingly, its
success depends upon its ability to attract, develop, motivate, retain and
effectively utilize highly-skilled IT professionals. The Company believes that
both in the United States and in India there is a growing shortage of, and
significant competition for, IT professionals who possess the technical skills
and experience necessary to deliver the Company's services, and that such IT
professionals are likely to remain a limited resource for the foreseeable
future. The Company believes that, as a result of these factors, it operates
within an industry that experiences a significant rate of annual turnover of IT
personnel. The Company's business plans are based on hiring and training a
significant number of additional IT professionals each year to meet anticipated
turnover and increased staffing needs. The Company's ability to maintain and
renew existing engagements and to obtain new business depends, in large part,
on its ability to hire and retain qualified IT professionals. The Company
performs a significant portion of its employee recruiting in foreign countries,
particularly in India. Any perception among the Company's recruits or foreign
IT professionals, whether or not well-founded, that the Company's ability to
assist them in obtaining permanent residency status in the United States has
been diminished could result in increased recruiting and personnel costs or
lead to significant employee attrition or both. There can be no assurance that
the Company will be able to recruit and train a sufficient number of qualified
IT professionals or that the Company will be successful in retaining current or
future employees. Failure to hire and train or retain qualified IT
professionals in sufficient numbers could have a material adverse effect on the
Company's business, results of operations and financial condition.
GOVERNMENT REGULATION OF IMMIGRATION. The Company recruits its IT professionals
on a global basis and, therefore, must comply with the immigration laws of the
countries in which it operates, particularly the United States. As of December
31, 2004, approximately 49% of Syntel's U.S. workforce (14% of Syntel's
worldwide workforce) worked under H-1B visas (permitting temporary residence
while employed in the U.S.) and another 16% of the Company's U.S. workforce (5%
of the Company's worldwide workforce) worked under L-1 visas (permitting
inter-company transfers of employees that have been employed with a foreign
subsidiary for at least 6 months). Pursuant to U.S. federal law, the U.S.
Citizenship and Immigration and Services (CIN) limits the number of new H-1B
visas to be approved in any government fiscal year. In years in which this limit
is reached, the Company may be unable to obtain enough H-1B visas to bring a
sufficient number of foreign employees to the U.S. If the Company were unable to
obtain sufficient H-1B employees, the Company's business, results of operations
and financial condition could be materially and adversely affected. Furthermore,
Congress and administrative agencies have periodically expressed concerns over
the levels of legal immigration into the U.S. These concerns have often resulted
in proposed legislation, rules and regulations aimed at reducing the number of
work visas, including L-1
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and H-1B visas that may be issued.
In addition to immigration restrictions in the U.S., the Company is subject to
various immigration and work permit restrictions globally and in particular in
the European community. These restrictions restrain the Company's ability to
add skilled professionals as needed for global operations and could have an
adverse impact on the Company's global strategy. Adverse changes to these
immigration and work permit regulations could have a material adverse effect on
the company's business, results of operations and financial condition.
VARIABILITY OF QUARTERLY OPERATING RESULTS. The Company has experienced and
expects to continue to experience fluctuations in revenues and operating
results from quarter to quarter due to a number of factors, including: the
timing, number and scope of customer engagements commenced and completed during
the quarter; progress on fixed-price engagements; timing and cost associated
with expansion of the Company's facilities; changes in IT professional wage
rates; the accuracy of estimates of resources and time frames required to
complete pending assignments; the number of working days in a quarter; employee
hiring, attrition and utilization rates; the mix of services performed on-site,
off-site and offshore; termination of engagements; start-up expenses for new
engagements; longer sales cycles for Applications Outsourcing engagements;
customers' budget cycles; and investment time for training. Because a
significant percentage of the Company's selling, general and administrative
expenses are relatively fixed, variations in revenues may cause significant
variations in operating results. It is possible that Company's operating
results could be below or above the expectations of market analysts and
investors. In such event, the price of the Company's Common Stock would likely
be materially adversely affected. No assurance can be given that quarterly
results will not fluctuate causing an adverse effect on the Company's financial
condition at the time.
CUSTOMER CONCENTRATION; RISK OF TERMINATION. The Company has in the past
derived, and believes it will continue to derive, a significant portion of its
revenues from a limited number of large, corporate customers. The Company's ten
largest customers represented approximately 61%, 64%, and 71% of revenues for
the years ended December 31, 2004, 2003 and 2002, respectively. The Company's
largest customer for 2004, 2003 and 2002, was American Express Company
accounting for approximately 16%, 16%, and 18% of revenues for each of the
years ended December 31, 2004, 2003 and 2002, respectively.
The volume of work performed for specific customers is likely to vary from year
to year, and a significant customer in one year may not provide the same level
of revenues in any subsequent year. Because many of its engagements involve
functions that are critical to the operations of its customer's businesses, any
failure by Syntel to meet a customer's expectations could result in cancellation
or non-renewal of the engagement and could damage Syntel's reputation and
adversely affect its ability to attract new business. Many of the Company's
contracts are terminable by the customer with limited notice and without
compensation beyond the professional services rendered through the date of
termination. An unanticipated termination of a significant engagement could
result in the loss of substantial anticipated revenues and could require the
Company to either maintain or terminate a significant number of unassigned IT
professionals. The loss of any significant customer or engagement could have a
material adverse effect on the Company's business, results of operations and
financial condition.
EXPOSURE TO REGULATORY AND GENERAL ECONOMIC CONDITIONS IN INDIA. A
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significant element of the Company's business strategy is to continue to develop
and expand offshore Global Development Centers in India. As of December 31,
2004, the Company had approximately 60% of its billable workforce in India, and
anticipates that this percentage will increase over time. While wage costs in
India are significantly lower than in the U.S. and other industrialized
countries for comparably skilled IT professionals, wages in India are increasing
at a faster rate than in the U.S., and could result in the Company incurring
increased costs for IT professionals. In the past, India has experienced
significant inflation and shortages of foreign exchange, and has been subject to
civil unrest. No assurance can be given that the Company will not be adversely
affected by changes in inflation, exchange rate fluctuations, interest rates,
tax provisions, social stability or other political, economic or diplomatic
developments in or affecting India in the future. In addition, the Indian
government is significantly involved in and exerts significant influence over
its economy. In the recent past, the Indian government has provided significant
tax incentives and relaxed certain regulatory restrictions in order to encourage
foreign investment in certain sectors of the economy, including the technology
industry. Certain of these benefits that directly benefited the Company
included, among others, tax holidays, liberalized import and export duties and
preferential rules on foreign investment. The Company treats any earnings from
its operations in India and other foreign countries as permanently invested
outside the United States. If the Company decides to repatriate any of such
earnings, it will incur a Dividend distribution tax for distribution from India,
currently 13.03% under Indian tax law and be required to pay U.S. corporate
income taxes on such earnings. As of December 31, 2004, the estimated dividend
distribution taxes and U.S. corporate taxes that would be due upon repatriation
of accumulated earnings are approximately $52.2 million. Changes in the business
or regulatory climate of India could have a material adverse effect on the
Company's business, results of operations and financial condition.
In December 2004, FASB Staff Position No. FAS 109-2, "Accounting and Disclosure
Guidance for the Foreign Earnings Repatriation Provision within the American
Jobs Creation Act of 2004" ("FSP FAS 109-2") was issued, providing guidance
under SFAS No. 109, "Accounting for Income Taxes" for recording the potential
impact of the repatriation provisions of the American Jobs Creation Act of
2004, enacted on October 22, 2004. FSP FAS 109-2 allows time beyond the
financial reporting period of enactment to evaluate the effects of the Jobs Act
before applying the requirements of FSP FAS 109-2. Accordingly, we are
evaluating the potential effects of the Jobs Act and have not adjusted our tax
expense or deferred tax liability to reflect the requirements of FSP FAS 109-2.
INTENSE COMPETITION. The IT services industry is intensely competitive, highly
fragmented and subject to rapid change and evolving industry standards. The
Company competes with a variety of other companies, depending on the IT services
it offers. The Company's primary competitors for professional IT staffing
engagements include participants from a variety of market segments, systems
consulting and implementation firms, applications software development and
maintenance firms, service groups of computer equipment companies and temporary
staffing firms. In Applications Outsourcing and e-Business services, the Company
competes primarily with companies in the domestic and global arena. In the
domestic IT arena, Syntel competes against firms such as IBM Global Solutions,
Keane, EDS, Cognizant, and Accenture. In the global IT services arena, Syntel is
increasingly competing against a number of India-based companies including TCS,
Infosys, and Wipro. Many of the Company's competitors have substantially greater
financial, technical and marketing resources and greater name recognition than
the Company. As a result, they may be able to
8
compete more aggressively on pricing, respond more quickly to new or emerging
technologies and changes in customer requirements, or devote greater resources
to the development and promotion of IT services than the Company. India based
companies also present significant price competition due to their competitive
cost structures and tax advantages. In addition, there are relatively few
barriers to entry into the Company's markets and the Company has faced, and
expects to continue to face, additional competition from new IT service
providers. Further, there is a risk that the Company's customers may elect to
increase their internal resources to satisfy their IT services needs as opposed
to relying on a third-party vendor such as the Company. The IT services industry
is also undergoing consolidation which may result in increased competition in
the Company's target markets. Increased competition could result in price
reductions, reduced operating margins and loss of market share, any of which
could have a material adverse effect on the Company. The Company also faces
significant competition in recruiting and retaining IT professionals which could
result in higher labor costs or labor shortages. There can be no assurance that
the Company will compete successfully with existing or new competitors or that
competitive pressures faced by the Company will not materially adversely affect
its business, results of operations or financial condition.
ABILITY TO MANAGE GROWTH. While the Company has experienced modest increase in
revenues over the past few years, it has historically experienced rapid growth
that has placed significant demands on the Company's managerial, administrative
and operational resources. Additionally, ongoing changes in the delivery mix
from onsite to offshore staffing have also placed additional operational and
structural demands on the Company. Revenues have increased from $45.3 million
in 1993 to $186.6 million in 2004, and the number of worldwide billable
employees has increased from 689 as of December 31, 1993 to 3,172 as of
December 31, 2004. The Company established sales offices in London, England in
1996 and in Hong Kong in 2001, opened sales and service offices in Singapore in
May 1997 and in Munich, Germany in 2001 and has expanded its Global Development
Centers in Mumbai, Chennai and Pune, India. The Company's future growth depends
on recruiting, hiring and training IT professionals, increasing its
international operations, expanding its U.S. and offshore capabilities, adding
effective sales and management staff and adding service offerings. Effective
management of these and other growth initiatives will require the Company to
continue to improve its operational, financial and other management processes
and systems. Failure to manage growth effectively could have a material adverse
effect on the quality of the Company's services and engagements, its ability to
attract and retain IT professionals, its business prospects, and its results of
operations and financial condition. In recent years the Company has realigned
existing personnel and resources, and has invested incrementally in the
development of its Applications Outsourcing business, with increased focus on
outsourcing services for ongoing applications management, development, and
maintenance. The Company has also invested in the development of its e-Business
practice business process outsourcing (BPO) practice. A key factor in the
Company's growth strategy is to increase Applications Outsourcing, e-Business
and BPO practices with new and existing customers. This strategy was evidenced
by a shift in the revenue mix from TeamSourcing to Applications Outsourcing and
e-Business in recent years, as well as the improvement in the Company's direct
margins.
However, Applications Outsourcing services generally require a longer sales
cycle (up to 12 months) and generally require approval by more senior levels of
management within the customer's organization, as compared with traditional IT
staffing services. Additionally, while the sales cycle for many e-Business
engagements tend to be shorter (one to six months), many engagements are short
in duration (three to six months), requiring increased sales and marketing.
While the Company has strengthened its
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experience and strength in marketing, developing, and performing such services,
there can be no assurance that the Company's increased focus on Applications
Outsourcing, e-Business and BPO will continue to be successful, and any failure
of such strategy could have a material adverse effect on the Company's business,
results of operations, and financial condition.
FIXED-PRICE ENGAGEMENTS. The Company undertakes engagements, in the nature of
development and maintenance, billed on a fixed-price basis, in addition to the
engagements billed on time-and-materials basis and has a strategy to increase
its percentage of revenue from fixed-price outsourcing. The Company's failure
to estimate accurately the resources and time required for an engagement or its
failure to complete fixed-price engagements within budget, on time and to the
required quality levels would expose the Company to risks associated with cost
overruns and, in certain cases, penalties, any of which could have a material
adverse effect on the Company's business, operating results and financial
condition. Fixed price revenues from development and maintenance activity
represented approximately 54%, 52% and 50% of total revenues for the years
ended December 31, 2004, 2003, and 2002, respectively.
POTENTIAL LIABILITY TO CUSTOMERS. Many of the Company's engagements involve IT
services that are critical to the operations of its customers' businesses. The
Company's failure or inability to meet a customer's expectations in the
performance of its services could result in a claim for substantial damages
against the Company, regardless of the Company's responsibility for such
failure. Although the Company attempts to limit contractually its liability for
damages arising from negligent acts, errors, mistakes or omissions in rendering
its IT services, there can be no assurance that the limitations of liability
set forth in its service contracts will be enforceable in all instances or
would otherwise protect the Company from liability for damages. Although the
Company maintains general liability insurance coverage, including coverage for
errors and omissions, there can be no assurance that such coverage will
continue to be available on reasonable terms, will be available in sufficient
amounts to cover one or more large claims, or that the insurer will not
disclaim coverage as to any future claim. The successful assertion of one or
more large claims against the Company that are uninsured, exceed available
insurance coverage or result in changes to the Company's insurance policies,
including premium increases or the imposition of large deductible or
co-insurance requirements, could adversely affect the Company's business,
results of operations and financial condition.
DEPENDENCE ON KEY PERSONNEL. The success of the Company may be highly dependent
on the efforts and abilities of Bharat Desai, the Company's co-founder,
Chairman, President, and Chief Executive Officer and other key personnel. The
loss of the services of these key personnel for any reason could have a
material adverse effect on the Company's business, operating results and
financial condition. The Company does not maintain key man life insurance on
Mr. Desai or any other key personnel.
RISKS RELATED TO POSSIBLE ACQUISITIONS. The Company has expanded, and may
continue to expand its operations through the acquisition of additional
businesses. Financing of any future acquisition could require the incurrence of
indebtedness, the issuance of equity (common or preferred) or a combination
thereof. There can be no assurance that the Company will be able to identify,
acquire or profitably manage additional businesses or successfully integrate any
acquired businesses into the Company without substantial expense, delays or
other operational or financial risks and problems. Furthermore, acquisitions may
involve a number of special risks, including diversion of management's
attention, failure to retain key
10
acquired personnel, unanticipated events or legal liabilities and amortization
of acquired intangible assets. Customer satisfaction or performance problems
within an acquired firm could have a material adverse impact on the reputation
of the Company as a whole. In addition, there can be no assurance that acquired
businesses, if any, will achieve anticipated revenues and earnings. The failure
of the Company to manage its acquisition strategy successfully could have a
material adverse effect on the Company's business, results of operations and
financial condition.
LIMITED INTELLECTUAL PROPERTY PROTECTION. The Company's success depends in part
upon certain methodologies, practices, tools and technical expertise it
utilizes in designing, developing, implementing and maintaining applications
and other proprietary intellectual property rights. In order to protect its
proprietary rights in these various intellectual properties, the Company relies
upon a combination of nondisclosure and other contractual arrangements as well
as trade secret, copyright and trademark laws which afford only limited
protection. The Company also generally enters into confidentiality agreements
with its employees, consultants, customers and potential customers and limits
access to and distribution of its proprietary information. India is a member of
the Berne Convention, an international treaty, and has agreed to recognize
protections on intellectual property rights conferred under the laws of foreign
countries, including the laws of the U.S. The Company believes that laws,
rules, regulations and treaties in effect in the U.S. and India are adequate to
protect it from misappropriation or unauthorized use of its intellectual
property. However, there can be no assurance that such laws will not change
and, in particular, that the laws of India will not change in ways that may
prevent or restrict the transfer of software components, libraries and toolsets
from India to the U.S. There can be no assurance that the steps taken by the
Company will be adequate to deter misappropriation of its intellectual
property, or that the Company will be able to detect unauthorized use and take
appropriate steps to enforce its rights. Although the Company believes that its
intellectual property rights do not infringe on the intellectual property
rights of others, there can be no assurance that such a claim will not be
asserted against the Company in the future or what impact any such claim, would
have on the Company's business, results of operation or financial condition.
The Company presently holds no patents or registered copyrights. The Company
holds the trademarks or servicemarks: Syntel(R), registered in the U.S. and
Germany; Consider IT Done(R), registered in the U.S. and Germany; Identeon(TM);
IntelliSourcing(R); IntelliTransfer(R); Skillbay(R); TeamSourcing(R); Total ERP
Applications Methodology (TEAM)(R); Latest to Legacy(R); New2USA.com(R); and
Digital Blueprinting-Build-Optimize(R). The Company has submitted U.S. federal
and foreign trademark applications to register those names for its service
offerings not already registered. However, there can be no assurance that the
Company will be successful in obtaining trademarks for these trade names.
POTENTIAL ANTI-OUTSOURCING LEGISLATION. In the recent past, the issue of
outsourcing of services abroad by companies has become a topic of political
discussion in the United States and in other countries. Measures aimed at
limiting or restricting outsourcing by companies are under discussion in U. S.
Congress as well as in as many of the state legislatures in addition to other
countries. While no substantive anti-outsourcing legislation has been enacted to
date that significantly adversely affects the Company, given the continuing
debate over this issue, the introduction and enactment of such legislation is
possible. If introduced and enacted, such measures are likely to fall within two
categories: (1) a broadening of restrictions on outsourcing by government
agencies and on government contracts with firms that outsource services directly
or indirectly, and/or (2) measures that impact private industry, such as tax
disincentives, restriction on the
11
transfer or maintenance of certain information abroad and/or intellectual
property transfer restrictions. In the event that any such measures become law,
our business, financial condition and results of operations could be adversely
affected and our ability to service our customer could be impaired.
ADVERSE ECONOMIC CONDITIONS. If economic growth slows, our utilization and
billing rates for our technology professionals could be adversely affected,
which may result in lower gross and operating profits.
FAILURE TO SUCCESSFULLY DEVELOP AND MARKET NEW PRODUCTS AND SERVICES. Over the
past several years, we have been expanding the nature and scope of our
engagements by extending the breadth of services we offer. The success of our
service offerings depends, in part, upon continued demand for such services by
our existing and new clients and our ability to meet this demand in a
cost-competitive and effective manner. In addition, our ability to effectively
offer a wider breadth of end-to-end business solutions depends on our ability
to attract existing or new clients to these service offerings. To obtain
engagements for our end-to-end solutions, we also are more likely to compete
with large, well-established international consulting firms as well as other
India-based technology services companies, resulting in increased competition
and marketing costs. Accordingly, our new service offerings may not effectively
meet client needs and we may be unable to attract existing and new clients to
these service offerings. The increased breadth of our service offerings may
result in larger and more complex client projects. This will require us to
establish closer relationships with our clients and potentially with other
technology service providers and vendors, and require a more thorough
understanding of our client's operations. Our ability to establish these
relationships will depend on a number of factors including the proficiency of
our technology professionals and our management personnel. Our business will
suffer if we fail to anticipate and develop new services and enhance existing
services in order to keep pace with rapid changes in technology and the
industries on which we focus. The technology services market is characterized
by rapid technological change, evolving industry standards, changing client
preferences and new product and service introductions. Our future success will
depend on our ability to anticipate these advances and develop new product and
service offerings to meet client needs. We may fail to anticipate or respond to
these advances in a timely basis, or, if we do respond, the services or
technologies we develop may not be successful in the marketplace. Further,
products, services or technologies that are developed by our competitors may
render our services non-competitive or obsolete.
BENCHMARKING PROVISIONS. As the size and duration of our client engagements
increases, clients may require benchmarking provisions. Benchmarking provisions
allow a customer in certain circumstances to request a benchmark study prepared
by an agreed upon third-party comparing our pricing, performance and efficiency
gains for delivered contract services to that of an agreed upon list of other
service providers for comparable services. Based on the results of the benchmark
study and depending on the reasons for any unfavorable variance, we may be
required to reduce the pricing for future services to be performed under the
balance of the contract, which could have an adverse impact on our revenues and
profitability.
CORPORATE GOVERNANCE ISSUES. Compliance with new and changing corporate
governance and public disclosure requirements adds uncertainty to our
compliance policies and increases our costs of compliance. Changing laws,
regulations and standards relating to accounting, corporate governance and
public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC
12
regulations, NASDAQ National Market rules, and Securities and Exchange
Commission regulations are creating uncertainty for companies. These new or
changed laws, regulations and standards may lack specificity and are subject to
varying interpretations. Their application in practice may evolve over time as
new guidance is provided by regulatory and governing bodies. This could result
in continuing uncertainty regarding compliance matters and higher costs of
compliance as a result of ongoing revisions to such governance standards. We are
committed to maintaining high standards of corporate governance and public
disclosure, and our efforts to comply with evolving laws, regulations and
standards in this regard have resulted in, and are likely to continue to result
in, increased general and administrative expenses and a diversion of management
time and attention from revenue-generating activities to compliance activities.
In addition, the new laws, regulations and standards regarding corporate
governance may make it more difficult for us to obtain director and officer
liability insurance. Further, our board members, chief executive officer, and
chief financial officer could face an increased risk of personal liability in
connection with their performance of duties. As a result, we may face
difficulties attracting and retaining qualified board members and executive
officers, which could harm our business. If we fail to comply with new or
changed laws or regulations and standards differ, our business and reputation
may be harmed.
TELECOM/INFRASTRUCTURE ISSUES. Disruptions in telecommunications, system
failures, or virus attacks could harm our ability to execute our Global
Delivery Model, which could result in client dissatisfaction and a reduction of
our revenues. A significant element of our Global Delivery Model is to continue
to leverage and expand our global development centers. Our global development
centers are linked with a redundant telecommunications network architecture
that uses multiple service providers and various satellite and optical links
with alternate routing. We may not be able to maintain active voice and data
communications between our various global development centers and between our
global development centers and our clients' sites at all times due to
disruptions in these networks, system failures or virus attacks. Any
significant failure in our ability to communicate could result in a disruption
in business, which could hinder our performance or our ability to complete
client projects on time. This, in turn, could lead to client dissatisfaction
and a material adverse effect on our business, results of operations and
financial condition.
CONFIDENTIALITY ISSUES. We may be liable to our clients for damages caused by
disclosure of confidential information or system failures. We are often required
to collect and store sensitive or confidential client and customer data. Many of
our client agreements do not limit our potential liability for breaches of
confidentiality. If any person, including any of our employees, penetrates our
network security or misappropriates sensitive data, we could be subject to
significant liability from our clients or from our clients' customers for
breaching contractual confidentiality provisions or privacy laws. Unauthorized
disclosure of sensitive or confidential client and customer data, whether
through breach of our computer systems, systems failure or otherwise, could
damage our reputation and cause us to lose clients. Many of our contracts
involve projects that are critical to the operations of our clients' businesses,
and provide benefits, which may be difficult to quantify. Any failure in a
client's system or breaches of security could result in a claim for substantial
damages against us, regardless of our responsibility for such failure. Although
we attempt to limit our contractual liability for consequential damages in
rendering our services, these limitations on liability may be unenforceable in
some cases, or may be insufficient to protect us from liability for damages. We
maintain general liability insurance coverage, including coverage for
13
errors or omissions, however, this coverage may not continue to be available on
reasonable terms and may be unavailable in sufficient amounts to cover one or
more large claims. Also an insurer might disclaim coverage as to any future
claim. A successful assertion of one or more large claims against us that
exceeds our available insurance coverage or changes in our insurance policies,
including premium increases or the imposition of a large deductible or
co-insurance requirement, could adversely affect our operating results.
NEW FACILITIES. We are investing substantial cash assets in new facilities and
physical infrastructure, and our profitability could be reduced if our business
does not grow proportionately.
STOCK OPTION ACCOUNTING. Our earnings will be adversely affected once we change
our accounting policies with respect to the expensing of stock options. We do
not currently deduct the expense of employee stock option grants from our
income based on the fair value method. We have adopted the pro forma disclosure
provisions of SFAS No. 123, Accounting for Stock-Based Compensation. Recently,
the Financial Accounting Standards Board issued FASB Statement No. 123 (revised
2004), Share-Based Payment requiring companies to change their accounting
policies to record the fair value of stock options issued to employees as an
expense. We are required to adopt SFAS 123R from July 1, 2005. The change in
our accounting policy with respect to the treatment of employee stock option
grants will adversely affect our earnings and we are evaluating the magnitude
of that impact.
TERRORIST ACTIVITY, WAR OR NATURAL DISASTERS. Terrorist activity, war or
natural disasters could adversely affect our business, results of operations
and financial condition. Terrorist activity, other acts of violence or war, or
natural disasters have the potential to have a direct impact on our clients.
Such events may make travel more difficult, may make it more difficult to
obtain work visas for many of our technology professionals and may effectively
curtail our ability to deliver our services to our clients. Such obstacles to
business may increase our expenses and negatively affect the results of our
operations. Many of our clients visit several technology services firms prior
to reaching a decision on vendor selection. Terrorist activity, war or natural
disasters could make travel more difficult and delay, postpone or cancel
decisions to use our services.
INSTABILITY AND CURRENCY FLUCTUATIONS. Historically, we have held a significant
amount of our cash funds in Indian rupees. Accordingly, changes in exchange
rates may have a material adverse effect on our revenues, other income, cost of
services sold, gross margin and net income, which may in turn have a negative
impact on our business, operating results and financial condition. The exchange
rate between the Indian rupee and the dollar has changed substantially in recent
years and may fluctuate substantially in the future. We expect that a majority
of our revenues will continue to be generated in U.S. dollars for the
foreseeable future and that a significant portion of our expenses, including
personnel costs, as well as capital and operating expenditures, will continue to
be denominated in Indian rupees. Consequently, the results of our operations are
adversely affected as the Indian rupee appreciates against the dollar.
INDUSTRY BACKGROUND
Increasing globalization, rapid adoption of the Internet as a business
tool and technological innovation are creating an increasingly competitive
business environment that is requiring companies to fundamentally change their
business processes. This change is driven by increasing demand from customers
for increased quality, lower costs, faster
14
turnaround, and highly responsive and personalized service. To effect these
changes and adequately address these needs, companies are focusing on their core
competencies and on cost-effectively utilizing IT solutions to improve
productivity, lower costs and manage operations more effectively.
Designing, developing, and implementing advanced technology solutions
are key priorities for the majority of corporations. In addition, the
development and maintenance of new IT applications continues to be a high
priority. This type of work requires highly skilled individuals trained in
diverse technologies. However, there is a growing shortage of these individuals
and many companies are reluctant to expand their IT departments through
additional staffing, particularly at a time when they are attempting to
minimize their fixed costs and reduce workforces. The Company believes that
many organizations are concluding that using outside specialists to address
their advanced technology and ongoing IT requirements enables them to develop
better solutions in shorter time frames and to reduce implementation risks and
ongoing maintenance costs. Those outside specialists best positioned to benefit
from these trends have access to a pool of skilled technical professionals,
have demonstrated the ability to manage IT resources effectively, have low-cost
offshore software development facilities, and can efficiently expand operations
to meet customer demands.
Demand for IT services has grown significantly as companies seek ways
to outsource not only specific projects for the design, development and
integration of new technologies, but also ongoing management, development and
maintenance of existing IT systems.
The Company believes that outsourcing the ongoing management,
development and maintenance of IT applications is becoming increasingly
critical to business enterprises. The difficulties of IT planning, budgeting
and execution in the face of technological innovations and uncertainties, the
focus on cost cutting, and a growing shortage of skilled personnel are driving
senior corporate management to strategically pursue outsourcing of critical
internal IT functions. Organizations are seeking an experienced IT services
outsourcing provider that not only has the expertise and knowledge to address
the complexities of rapidly changing technologies, but also possesses the
capability to understand and automate the business processes and knowledge base
of the organization. In addition, the IT provider must be able to develop
customized solutions to problems unique to the organization. This involves
maintaining on-site professionals who know the customer's IT processes,
providing access to a wide range of expertise and best practices, providing
responsiveness and accountability to allow internal IT departments to meet
organization goals, and providing low cost, value-added services to stay within
the organization's IT budget constraints.
In this environment, large organizations are increasingly finding that
full facilities management outsourcing providers who own and manage an
organization's entire IT function do not permit the organization to retain
control over, or permit flexible reallocation of, its IT resources.
SYNTEL SOLUTION
Syntel provides e-business solutions in the areas of Web Solutions,
Customer Relationship Management (CRM), Data Warehousing/Business Intelligence,
and Enterprise Applications Integration (EAI). The Company's approach involves
taking an enterprise wide view of the customer's technology and business
environment to ensure comprehensive solution integration. This view is termed
the Digital Ecosystem. Syntel's methodology for implementing its e-business
services involves Digital
15
Blueprinting/Build/Optimize(R). In the Digital Blueprinting phase, Syntel's
teams analyze a customer's current technology environment and its business
objectives, and then begins architecting the e-Business solution to meet these
objectives. In the Build phase, Syntel actually constructs the technology
applications and integrates the necessary package applications for the customer.
In the Optimize phase, Syntel provides ongoing, cost effective maintenance and
enhancement services for the newly created applications. Additionally, the
Company has entered into several partnerships to provide its implementation,
customization, migration and maintenance services with leading software and IT
application software infrastructure providers including BEA Systems, IBM,
Informatica, Microsoft, Oracle, Sun, TIBCO, Microstrategy, Cognos, Identify,
Mercury, Borland, Citrix, Broadvision and Vianeta. These partnerships will
provide the Company with increased opportunities for market penetration.
Syntel provides comprehensive Applications Outsourcing services
consisting of applications management services for ongoing management,
development and maintenance of business applications, as well as TeamSourcing
services consisting of professional IT consulting services. The Company
believes that its Applications Outsourcing approach to IT services outsourcing,
which involves assuming responsibility for management of selected applications
rather than taking over an entire IT department or providing facilities
management, provides significant differentiation from its competitors in the IT
services market. Syntel believes that its e-business and Applications
Outsourcing service offerings are distinguished by its Global Delivery Service,
a corporate culture focused on customer service and responsiveness and its
internally developed "intellectual capital," comprised of a proven set of
methodologies, practices and tools for managing the IT functions of its
customers.
GLOBAL DELIVERY SERVICE. Syntel performs its services on-site at the customer's
location, off-site at Syntel's U.S. locations and offshore at its Indian
locations. By linking each of its service locations together through a dedicated
data and voice network, Syntel provides a seamless service capability to its
customers around the world, largely unconstrained by geographies, time zones and
cultures. This Global Delivery Service gives the Company the flexibility to
deliver to each customer a unique mix of on-site, off-site and offshore services
to meet varying customer needs for direct interaction with Syntel personnel,
access to technical expertise, resource availability and cost-effective
delivery. The benefits to the customer from this customized service include
responsive delivery based on an in-depth understanding of the specific processes
and needs of the customer, quick turnaround, access to the most knowledgeable
personnel and best practices, resource depth, 24-hour support seven days a week,
and cost-effectiveness. To support its Global Delivery Service, the Company
currently has three Global Development Centers located in Mumbai, India; Pune,
India; and Chennai, India. The Company also has a Support Center located in
Cary, North Carolina.
In January 2001, the Company acquired 41 acres of land at the cost of
approximately $1.0 million for construction of a state-of-the-art development
and training campus in Pune, India. When fully completed, the facility will
cover over 1 million square feet and will accommodate 7,000 employees. It will
be both a customer and employee focused facility, including such amenities as
training facilities, cafeteria and fitness center. The Company has appointed a
leading project management company, finalized architectural drawings for Phase
I and has appointed contractors for all key elements of the project. The
superstructure of Phase 1 is near completion and work has begun on external
development and services works. The fit out plans for Phase 1 have been
completed and vendors to complete those plans will be appointed by April 2005.
Office building with space for
16
750 seats, a food court and dormitories are expected to be ready by the third
quarter of 2005.
FOCUS ON CUSTOMER SERVICE. The Syntel corporate culture reflects a "customer
for life" philosophy, which emphasizes flexibility, responsiveness,
cost-consciousness and a tradition of excellence. The Company recognizes that
its best source for new business opportunities comes from existing customers
and believes its customer service is a significant factor in Syntel's high rate
of repeat business. At engagement initiation, Syntel's services are typically
based on expertise in the software life cycle and underlying technologies. Over
time, however, as Syntel develops an in-depth knowledge of a customer's
business processes, IT applications and industry, Syntel gains a competitive
advantage to perform additional higher-value IT services for that customer.
PROVEN INTELLECTUAL CAPITAL. Over its 24-year history, Syntel has developed a
proven set of methodologies, practices, tools and technical expertise for the
development and management of its customers' information systems. This
"intellectual capital" of Syntel includes methodologies for the selection of
appropriate customer IT functions for management by Syntel, tools for the
transfer to Syntel of the systems knowledge of the customer, and techniques for
providing systems support improvements to the customer. Syntel also offers to
its customers well-trained personnel backed by a proven, extensive employee
training and continuing development program. The Company believes its
intellectual capital enhances its ability to understand customer needs, design
customized solutions and provide quality services on a timely and
cost-effective basis.
SYNTEL STRATEGY
The Company's objective is to become a strategic partner with its
customers in managing the full IT services lifecycle by utilizing its Global
Delivery Model, intellectual capital and customer service orientation. The
Company plans to continue to pursue the following strategies to achieve this
objective:
LEVERAGE GLOBAL DELIVERY MODEL. The ability to deliver a seamless service
capability virtually anywhere in the world from its domestic and offshore
facilities gives the Company an effective ability to meet customer needs for
technical expertise, best practice IT solutions, resource availability,
responsive turnaround and cost-effective delivery. The Company strives to
leverage this capability to provide reliable and cost-effective services to its
existing customers, expand services to existing customers and to attract new
customers. Moreover, the flexibility and capacity of the Global Delivery Service
and the Company's worldwide recruitment and training programs enhance the
ability of the Company to expand its business as the number of customers grows
and their IT demands increase. The Company intends to expand the capacity of its
Global Development Centers worldwide.
AGGRESSIVELY BUILD E-BUSINESS COMPETENCIES. Through its comprehensive suite of
e-Business services, the Company provides a key strategic role in helping
customers rapidly and cost-effectively build advanced technology solutions.
Through large-scale retraining programs, strategic acquisitions and
partnerships, the Company has quickly built a strong competency in the area of
e-Business services.
CONTINUE TO GROW APPLICATIONS OUTSOURCING SERVICES. Through Applications
Outsourcing, the Company markets its higher value applications management
services for ongoing applications management, development and maintenance. In
recent years, the Company has significantly increased its investment in
Applications Outsourcing services and realigned its resources to focus on
17
the development, marketing and sales of its Applications Outsourcing and
e-Business services, including the hiring of additional salespeople and senior
managers, redirecting personnel experienced in the sale of higher value
contracts, developing proprietary methodologies, increasing marketing efforts,
and redirecting organizational support in the areas of finance and
administration, human resources and legal.
BUILD A HIGH VALUE BPO SOLUTION SET. The Company will grow its expertise in the
area of value-added BPO solutions, primarily in the areas of financial
services, insurance, healthcare and retail. By leveraging a mature Global
Delivery Model and domain expertise, the Company is able to provide
competitively priced BPO solutions that deliver process improvements as well.
EXPAND CUSTOMER BASE AND ROLE WITH CURRENT CUSTOMERS. The Company's sales
efforts include migrating existing TeamSourcing customers to higher value
e-Business and Applications Outsourcing services. The Company's emphasis on
customer service and long-term relationships has enabled the Company to
generate recurring revenues from existing customers. The Company also seeks to
expand its customer base by leveraging its expertise in providing services to
the financial, manufacturing, retail, transportation, and
information/communications industries, as well as to government entities. With
the expansion of the Company's Indian operations, the Company is increasing its
marketing efforts in other parts of the world, particularly in Europe.
PROVIDE GREAT DEPTH & BREADTH OF SERVICE OFFERINGS. The Company will continue
to create market-based service offerings to meet the emerging needs of its
customers. In 2004, the Company introduced a global testing service as well as
SSN Secure, for privacy solutions related to social security numbers. The
Company plans to develop new service offerings on a continual basis.
ENHANCE PROPRIETARY KNOWLEDGE BASE AND EXPERTISE. The Company believes that its
"intellectual capital" of methodologies, practices, tools and technical
expertise is an important part of its competitive advantage. The Company strives
to continually enhance this knowledge base by creating competencies in emerging
technical fields such as internet/intranet applications, client/server
applications, object-oriented software, e-commerce, and data warehousing
technology. The Company continually develops new methodologies and toolsets,
building skills in e-Business, and acquiring a broad knowledge and expertise in
the IT functions of specific industries. Through these efforts, the Company
becomes more valuable to the customer, is often able to expand the scope of its
work to existing customers, and is able to offer industry-specific expertise.
ATTRACT AND RETAIN HIGHLY SKILLED IT PROFESSIONALS. The Company believes that
its human resources are its most valuable asset. Accordingly, its success
depends in large part upon its ability to attract, develop, motivate, retain and
effectively utilize highly skilled IT professionals. Over the years, the Company
has developed a worldwide recruiting network, logistical expertise to relocate
its personnel, and programs for human resource retention and development. The
Company (i) employs professional recruiters who recruit qualified professionals
throughout the U.S. and India, (ii) trains employees and new recruits through
both computer based training and its four training centers, one of which is
located in the U.S. and three of which are located in India, and (iii) maintains
a broad range of employee support programs, including relocation assistance, a
comprehensive benefits package, career planning, a qualified stock purchase
program, and incentive plans. The Company believes that its management structure
and human resources organization is designed to maximize the
18
Company's ability to efficiently expand its professional IT staff in response to
customer needs.
PURSUE SELECTIVE PARTNERSHIP OPPORTUNITIES. The Company has entered into
partnership alliances with several software firms and IT application
infrastructure firms, including BEA Systems, IBM, Informatica, Microsoft,
Oracle, Sun, TIBCO, Microstrategy, Cognos, Identify, Mercury, Borland, Citrix,
Broadvision and Vianeta. The alliances provide a strong software implementation
strategy for the customer, combining the partner's software with Syntel's
extensive implementation and delivery capabilities. Before entering into a
partnership alliance, the Company considers a number of criteria, including:
(i) technology employed; (ii) projected product lifecycles; (iii) size of the
potential market; (iv) software integration requirements of the product; and
(v) the reputation of the potential partner.
SERVICES
Syntel provides a broad range of IT services through its Applications
Outsourcing, e-Business, BPO, and TeamSourcing service offerings. Through
Applications Outsourcing offering, the Company provides complete software
applications development, maintenance and platform migration services. Through
its e-Business practices, the Company provides advanced technology services in
the areas of Web Solutions, Customer Relationship Management (CRM), Data
Warehousing/Business Intelligence, and Enterprise Applications Integration
(EAI) and Enterprise Resource Planning (ERP) software package implementation.
Through its BPO offering, the Company provides a host of outsourced solutions
for business processes. Through TeamSourcing, the Company provides professional
IT consulting services. During the past year, the Company has increased the
personnel and resources dedicated to the development, marketing and sales of
its Applications Outsourcing, e-Business, and BPO services. For the years ended
December 31, 2004, 2003 and 2002, e-business and Applications Outsourcing
combined accounted for approximately 92%, 95% and 91%, respectively, of the
Company's revenues and TeamSourcing represented approximately 7%, 5% and 9%,
respectively, of the Company's revenues. The BPO segment started contributing
revenues during the year 2004. Revenue from this segment was 1% of total
revenues for the year ended December 31, 2004.
Syntel's focus on customer service is evidenced by the high level of
repeat business from existing customers and the quality awards its customers
have bestowed on Syntel. In the fourth quarter of 2004, more than 97% of
Syntel's revenue came from clients the Company has worked with for at least one
year. Syntel has earned a host of quality awards, including the "CIO Award" from
General Motors, as well as "Preferred Supplier" status with DaimlerChrysler
Corporation, in which Syntel received the highest rating in each customer
service category. The Company has also been recognized by Target Corporation
with a "Best Business Partner Award". Syntel's development centers in India
earned the highest possible quality rating of the Software Engineering Institute
(SEI) Capability Maturity Model (CMM) Level 5. Syntel is also an ISO 9001: 2000
certified company, and in late 2004, Syntel earned the BS 7799 2:2002 security
certification for its centers in India, as well as neoQA Certified to Level 4.
During 2004, Syntel also earned a host of media awards, including Fortune Small
Business "America's Fastest-Growing Small Companies"; Healthcare Informatics
100; Diversity Business "Top 100 Diversity Owned Businesses in the U.S.";
VARBusiness 500; and was on the Forbes "200 Best Small Companies in America"
list for the fifth time.
19
APPLICATIONS OUTSOURCING
Syntel provides high-value application management services for ongoing
management, development and maintenance of business applications. Through
Applications Outsourcing, the Company assumes responsibility for, and manages
selected applications support functions of the customers. The Global Delivery
Service is central to Syntel's delivery of Applications Outsourcing services.
It enables the Company to respond to customers' needs for ongoing service and
flexibility and has provided the capability to become productive quickly on a
cost-effective basis to meet timing and resource demands for mission critical
applications.
Syntel has developed methodologies, processes and tools to effectively
integrate and execute Applications Outsourcing engagements. Referred to as
"IntelliTransfer(R)," this methodology is implemented in three stages of
planning, transition and launch. Syntel first focuses on the customer's
personnel, processes, technology and culture to develop a plan to effectively
assimilate the business process knowledge of the customer. Syntel then begins
to learn the business processes of the customer, and, finally, seeks to assume
responsibility for performance of a particular customer applications system or
systems. As the Company develops an in-depth knowledge of the customer's
personnel, processes, technology and culture, Syntel acquires a competitive
advantage to pursue more value-added services. The Company believes its
approach to providing these services results in a long-term customer
relationship involving a key Syntel role in the business processes and
applications of the customer.
Because providing both e-Business and Applications Outsourcing
services typically involves close participation in the IT strategy of a
customer's organization, Syntel adjusts the manner in which it delivers these
services to meet the specific needs of each customer. For example, if the
customer's business requires fast delivery of a mission-critical applications
update, Syntel will combine its on-site professionals, who have knowledge of
the customer's business processes and applications, together with its global
infrastructure to deliver around-the-clock resources. If the customer's need is
for cost reduction, Syntel may increase the portion of work performed at its
offshore Global Development Center, which has significantly lower costs. The
Company believes that its ability to provide flexible service, delivery and
access to resources permits responsiveness to customer needs and are important
factors that distinguish its e-Business and Applications Outsourcing services
from other IT service firms.
E-BUSINESS SERVICES
Syntel provides strategic advanced technology services for the design,
development, implementation and maintenance of solutions to enable customers to
be more competitive. Many of today's advanced technology solutions are built
around utilization of the Internet, which has transformed many businesses. The
Company provides customized technology services in the areas of web solutions,
including web architecture, web-enablement of legacy applications, and portal
development. The Company also provides Customer Relationship Management (CRM)
services, which involve software solutions that put Syntel's customers in
closer touch with their own customers. Syntel helps its customers select the
appropriate package software options, then customize and implement the
solutions. In the area of Data Warehousing/Business Intelligence, Syntel helps
customers make more strategic use of information within their businesses
through the development and implementation of data warehouses and data mining
tools.
In the area of Enterprise Applications Integration, Syntel takes an
20
enterprise-wide view of its customers' environment and implements package
software solutions that create better integration, and therefore better
information utilization, between front-office and back-office applications.
Additionally, the Company has effectively engaged several partnerships to
provide it's implementation, customization, migration and maintenance services
with leading software and IT application software infrastructure providers
including BEA Systems, IBM, Informatica, Microsoft, Oracle, Sun, TIBCO,
Microstrategy, Cognos, Identify, Mercury, Borland, Citrix, Broadvision and
Vianeta. These partnerships will provide the Company with increased
opportunities for market penetration.
BUSINESS PROCESS OUTSOURCING (BPO)
Syntel seeks to provide high-value BPO solutions to its customers, as
opposed to low-value, capital-intensive voice-based BPO services. Through BPO,
Syntel provides outsourced solutions for a client's business processes,
providing them with the advantage of a low-cost position and process
enhancement through optimal use of technology. Syntel uses a proprietary tool
called IdenteonTM to assist with strategic assessments of business processes,
identifying the right ones for outsourcing. In the area of financial services,
Syntel focuses on the middle and back-office business processes of the
transaction cycle. Syntel's healthcare BPO services include aspects associated
with Revenue Cycle Management, including claim appeals, provider enrollment
assistance, payment posting and coding. Syntel's insurance BPO services include
claims processing and policy administration, among others. BPO accounted for
approximately 1% of revenues, for the year ended December 31, 2004.
TEAMSOURCING(R)
Syntel offers professional IT consulting services directly to its
customers and, to a lesser degree, in partnership with other service providers.
The professional IT consulting services include individual professionals and
teams of professionals dedicated to assisting customer systems projects and
ongoing IT functions. This service responds to the demand from internal IT
departments for additional expertise, technical skills and personnel. The
Company's wide range of TeamSourcing services include IT applications systems
specification, design, development, implementation and maintenance, which
involve diverse computer hardware, software, data and networking technologies
and practices.
STRATEGIC SOLUTIONS GROUP
The Company seeks to gain a competitive advantage through its
methodologies, tools and technical expertise. The Company employs a team of
professionals in its Strategic Solutions Group whose mission is to develop and
formalize Syntel's "intellectual capital" for use by the entire Syntel
organization. The Strategic Solutions Group focuses on monitoring industry
trends, creating competencies in emerging technical fields, developing new
methodologies, techniques and tools such as IntelliTransfer(R) and
IntelliCaptureSM, creating reusable software components through its Innovate
methodology to enhance quality and value on customer assignments, and educating
Syntel's personnel to improve marketing, sales and delivery effectiveness. The
Strategic Solutions Group consists of senior technical personnel located in
both the U.S. and India.
CUSTOMERS
Syntel provides its services to a broad range of Global 2000
corporations principally in the financial services, insurance, manufacturing,
retail and healthcare industries. During 2004, the Company
21
provided services to over 102 customers, principally in the U.S. The Company
also provides services to customers in Europe and Southeast Asia, many of whom
are subsidiaries or affiliates of its U.S. customers. Representative customers
of the Company, each of which provided revenue of at least $100,000 during 2004,
include:
- ----------------------------------- ----------------------------------- ------------------------------------------
FINANCIAL SERVICES MANUFACTURING INSURANCE
- ------------------ ------------- ----------
American Express Cummins Engine Co. ACE Ina Holdings
Corillian Corp. Daimler-Chrysler Corp All State Insurance
Credit Swiss First Boston Ford Motor Co. American International Group
Deutsche Bank Freightliner LLC Capitol Indemnity
First Data Merchant Services Mead Westvaco CNA Commercial Lines
General Motors Acceptance Corp New Venture Gear Kemper Insurance/Unitrin
GFI Trade Capture Tektronix, Inc. Maxum Speciality Insurance
Green Tree Servicing LLC T-System Stewart - Landata Systems Inc.
Group 1 Westfield Insurance
RETAIL
International Finance Data ------------ INFORMATION/COMMUNICATION
Services H & R Block -------------------------
J P Morgan Chase Target Corporation Computer Task Group
Moody's Investor Services Consolidated Communication
Princeton Financial Systems Inc. TRANSPORTATION/AVIATION Hewlett Packard
State Street Bank ----------------------- Intel Malaysia
Washington Mutual Bank Federal Express Corp. SMS 800
Wells Fargo Bank Geologistics Corp. TIBCO Software Inc.
Jeppesen Sanderson, Inc.
HEALTHCARE Kintetsu
- ---------- SBS International
Aetna The News Market
Blue Cross Blue Shield of North Thomas Cook
Carolina
First Health Services Corp
Health Care Associates EMERGING/OTHERS
Humana Inc ---------------
IBM Deloitte Consulting
Kent County Community GFI Group Inc.
McKesson OE3 Operating Engineers
St. Johns health Percon
Verizon Data Services
VHA Inc
Well point
- ----------------------------------- ----------------------------------- ------------------------------------------
For the years ended December 31, 2004, 2003, and 2002, the Company's
top ten customers accounted for approximately 61%, 64% and 71% of the Company's
revenues, respectively. For the year ended December 31, 2004 one customer
contributed revenues in excess of 10% of total consolidated revenues. The
Company's three largest customers in 2004 were American
22
Express, Wells Fargo and Daimler-Chrysler contributing approximately 16%, 8% and
6% respectively, of total consolidated revenues. The Company's largest customer
for 2004, 2003 and 2002 was American Express, accounting for approximately 16%,
16% and 18% of revenues for each of the years ended December 31, 2004, 2003 and
2002, respectively.
GLOBAL DELIVERY SERVICE
Syntel's Global Delivery Service gives the Company the flexibility and
resources to perform services on-site at the customer's location, off-site at
the Company's U.S. locations and offshore at the Company's Indian locations. By
linking each of its service locations together through a dedicated data and
voice network, Syntel provides a seamless service capability to its customers.
The Global Delivery Service gives the Company the flexibility to deliver to
each customer a customized mix of integrated on-site, off-site and offshore
services to meet varying customer needs for direct interaction with Syntel
personnel, access to technical expertise and best practices, resource
availability and cost-effective delivery.
Through on-site service delivery at the customer's location, the
Company is able to gain comprehensive knowledge concerning the customer's
personnel, processes, technology and culture, and maintain direct customer
contact to facilitate project management, problem solving and integration of
Syntel services. Off-site service delivery at the Company's U.S. locations
provides the customer with access to the diverse skill base and technical
expertise resident at different regional centers, availability of resources,
and cost-effective delivery due to the savings in transportation, facilities
and relocation costs associated with on-site work. Offshore service delivery at
the Company's Indian locations provides the customer with the capacity to
receive around the clock attention to applications maintenance and project
development for faster turnaround, greater availability of resources, expertise
resident in India and more cost-effective delivery than the Company's off-site
services.
The Company has developed global recruiting and training programs
which have efficiently provided skilled IT professionals to meet customer
needs. In addition, the Company's sales, solutions and delivery functions are
closely integrated in the Global Delivery Service so that appropriate resources
can be provided to the customer at the right time and at the most advantageous
location. Each customer is tracked and serviced through a multi-stage customer
care process. Regular meetings are held with key project management, sales,
technical, legal and finance personnel to monitor progress, identify issues and
discuss solutions. As engagements evolve and customer needs change, the Company
can reallocate resources responsively among these locations as necessary.
The Company's three Global Development Centers located in; Mumbai,
India; Pune, India; Chennai, India; and a Support Center at Cary, North
Carolina support the Company's Global Delivery Service. During 2004, the
Company also created a BPO facility in Mumbai, India with a capacity of 383
people.
The Mumbai, India Global Development Center, which employed, including
onsite deputations outside Mumbai, approximately 2,133 persons as of December
31, 2004, serves as the hub of the Company's Indian operations. This Global
Development Center provides substantial resource depth to meet customer needs
around the world, low-cost service delivery, a 24-hour customer assistance
center and development of technical solutions and expertise. Mumbai also serves
as the principal recruiting and training center for the Company. The Mumbai
Center has been in operation for over a decade and has a capacity of
approximately 1,417 people.
23
The Chennai Training and Global Development Center employed, including
onsite deputations outside Chennai, approximately 847 persons as of December
31, 2004. The Chennai facility has a capacity of approximately 610 persons and
has been in operation for approximately five years.
The Cary, North Carolina Support Center, which employed approximately
19 persons at December 31, 2004, serves as a hub for the Company's
telecommunications. Its support functions include administration of a dedicated
data and voice network, a 24-hour customer assistance center which coordinates
problem resolution worldwide.
In January 2001, the Company acquired 41 acres of land at the cost of
approximately $1.0 million for construction of a state-of-the-art development
and training campus in Pune, India. When fully completed, the facility will
cover over 1 million square feet and will accommodate 7000 employees. It will
be both a customer and employee focused facility, including such amenities as
training facilities, cafeteria and fitness center. The Company has appointed a
leading project management company, finalized architectural drawings for Phase
I and has appointed contractors for all key elements of the project. The
superstructure of Phase 1 is near completion and work has begun on external
development and services works. The fit out plans for Phase 1 have been
completed and vendors to complete those plans will be appointed by April 2005.
Office buildings with space for 750 seats, a food court and dormitories are
expected to be ready by the third quarter of 2005.
The Company believes that space availability in Mumbai and Chennai
will accommodate short-term facility requirements and the new campus in Pune
will enable the Company to meet offshore growth requirements for the next
several years. As a step in this direction, in 2002 the Company leased certain
facilities to open an interim Development Center in Pune, which employed
approximately 804 persons including onsite deputations outside Pune, as of
December 31, 2004, and having a capacity of 761 persons.
SALES AND MARKETING
The Company markets and sells its services directly through its
professional salespeople and senior management operating principally from the
Company's offices in Irvine, California; Santa Clara, California; Phoenix,
Arizona; Schaumburg, Illinois; Dallas, Texas; Minneapolis, Minnesota; New York,
New York; Troy, Michigan; Santa Fe, New Mexico; Cary, North Carolina;
Nashville, Tennessee; Natick, Massachusetts; Dublin, Ohio; London, England;
Hong Kong; Munich, Germany and Singapore. The sales staff is aligned into
geographic regions, with each salesperson provided the authority to pursue
Applications Outsourcing, e-Business, BPO and, to a much lesser degree,
TeamSourcing opportunities. The sales team is supported, as required, by
technical expertise and subject matter experts from the Company's delivery
teams.
The sales cycle for Applications Outsourcing engagements ranges from
six to nine months, depending on the complexity of the engagement. Due to this
longer sales cycle, Applications Outsourcing sales executives follow an
integrated sales process for the development of engagement proposals and
solutions, and receive ongoing input from the Company's technical services,
delivery, finance and legal departments throughout the sales process. The
Applications Outsourcing sales process also typically involves a greater number
of customer personnel at more senior levels of management than the TeamSourcing
sales process.
24
The sales cycle for e-Business engagements, from initial contact to
execution of an agreement, varies by type of service and account size, but
typically ranges from one to six months, depending on the complexity of the
engagement. The sales cycle for large, fixed price e-Business engagements is
similar to that of Applications Outsourcing engagements. The sales cycle for
partnership software installations is generally one to two months. The
associated software installation engagements are also generally short, lasting
one to three months.
The sales cycle for TeamSourcing engagements, from initial contact to
execution of an agreement, varies by type of service and account size, but is
typically completed within 30 days. TeamSourcing engagements are essentially
developed from existing customers as the Company focuses its attention on
growing the Applications Outsourcing, BPO and e-Business segments.
Syntel's marketing organization strives to build and support the
Syntel brand as well as generate awareness and leads for the Company's service
offerings. The Company's current marketing initiatives include online
advertising, webcasts, conference sponsorship and attendance, direct mail
campaigns, case studies, and public relations aimed at CEOs, CIOs and CFOs of
Global 2000 companies. In addition, Syntel's marketing team maintains ongoing
relationships with leading industry analysts such as Gartner Group, IDC,
Forrester Research, and Meta Group to ensure analysts have a good understanding
of Syntel's offerings and positioning. Syntel's marketing group also manages
the Company's investor relations program, market research, and sales support
efforts.
HUMAN RESOURCES
The Company believes that its human resources are its most valuable
asset. Accordingly, the Company's success depends in large part upon its
ability to attract, develop, motivate, retain and effectively utilize highly
skilled IT professionals. The Company has developed a number of processes,
methodologies, technologies and tools for the recruitment, training,
development and retention of its employees. As of December 31, 2004, the
Company had 4,527 full time employees. Of this total, the U.S. operations
employed, including onsite deputations, 1,294 persons, including 1,178 IT
professionals; the Indian operation employed 3,093 persons, including 2,776 IT
professionals; and the Company employed an additional 140 persons in various
remote locations, principally the U.K. and Singapore.
A majority of the Company's professional employees have a Bachelor of
Science degree or its equivalent, or higher degrees in computer science,
engineering disciplines, management, finance and other areas. Their experience
level ranges from entry-level programmers to engagement managers and senior
consultants with over 20 years of IT experience. The Company has personnel who
are experienced in mainframe, client/server and open systems technologies, and
proficient in a variety of computer programming languages, software tools,
database management systems, networks, processes, methodologies, techniques and
standards.
The Company has implemented a management structure and human resources
organization intended to maximize the Company's ability to efficiently expand
its professional staff. Although the Company believes that it has the capability
to meet its anticipated future needs for IT professionals through its
established recruiting and training programs, there can be no assurance that the
Company will be able to hire, train or retain qualified IT professionals in
sufficient numbers to meet anticipated staffing needs.
25
RECRUITING. The Company has developed a recruiting methodology and
organization, which is a core competency. The Company has significantly
expanded it's international-based recruiting team, with recruiters in Mumbai,
Chennai, Hyderabad, Banglore, and Pune, India, to recruit for the Company's
global requirements. The Company also has a recruiting team based in the U.S.,
which recruits primarily across the U.S. The Company uses a standardized global
selection process that includes written tests, interviews, and reference
checks.
Among the Company's other recruiting techniques are the placement of
advertisements on its own web site and popular job boards, in newspapers and
trade magazines, providing bonuses to its employees who refer qualified
applicants, participating in job fairs and recruiting on university campuses.
In addition, the Company has developed a proprietary database of talent hosted
on the Internet, which is an automated tool for managing all phases of
recruiting. This system enhances the ability of the Company's recruiters to
select appropriate candidates and can distribute resumes directly to the
recruiters.
TRAINING. The Company uses a number of established training delivery mechanisms
in its efforts to provide a consistent and reliable source for qualified IT
professionals.
Syntel also maintains an Internet-based global Computer-Based Training
(CBT) program with over 200 training courses from which Syntel employees can
select to enhance and develop their skills. The CBT topics cover the latest
Client/Server topics including Object Oriented Programming, local-area and
wide-area networking, E-Commerce, various Microsoft products, and Web-based
solutions in addition to management and related developmental areas.
The Company continued to re-skill a significant percentage of the
consulting base during the last year in the latest advanced software platforms,
including J2EE, Object Oriented, C++, C-Sharp, .NET, RMI Corba, SAP,
PeopleSoft, ETL, Datastage, Ab-initio, Informatica and Microstrategy.
Since 1998, the Company has operated a Project Manager Training
program. The objective of the program is to develop certified project managers
to ensure consistent and quality delivery of the Company's engagements on a
worldwide basis. The 12 to 18 month program consists of lecture style classroom
work, computer based training, and on the job apprenticeships. The program
trains students on industry "best practices" as well as Syntel specific methods
and processes. Program participants must receive certification from the Project
Management Institute ("PMI") before receiving Syntel branded certification.
The Company has been accepted as a Microsoft Certified Solution
Partner and sponsors the Microsoft Certification Program and provides
opportunities for cross training of its professionals in emerging technologies
at its various development centers.
SUPPORT AND RETENTION. The Company seeks to provide meaningful support
to its employees which the Company believes leads to improved employee retention
and better quality services to its customers. A significant percentage of the
Company's employees have been recruited from outside the U.S. and relocated to
the U.S. This has resulted in the need to provide a higher level of initial
support to its employees than is common for U.S.-based employees. As a result of
these activities, Syntel has developed a significant knowledge base in making
foreign professionals comfortable and quickly productive in the U.S. and Europe.
The Company also conducts
26
regular career planning sessions with its employees, and seeks to meet their
career goals over a long-term planning horizon. As part of its retention
strategy, the Company strives to provide a competitive compensation and benefits
package, including relocation reimbursement and support, health insurance,
24-hour on-call nurse consulting, a 401(k) plan, life insurance, dental options,
a vision eye-care program, long-term disability coverage, short-term disability
options, tuition subsidy plan, and a health club reimbursement program. Since
its initial public offering in 1997, the Company has offered a stock option
program, and since 1998 a qualified stock purchase program, providing all
eligible employees the opportunity to purchase the Company's Common Stock at a
15% discount to fair market value. During 2004 the Company issued incentive
restricted stock to its non-employee directors and some employees as well as to
some employees of its subsidiaries.
COMPETITION
The IT services industry is intensely competitive, highly fragmented
and subject to rapid change and evolving industry standards. The Company
competes with a variety of other companies, depending on the IT services it
offers. The Company's primary competitors for professional IT staffing
engagements include participants from a variety of market segments, including
"Big Four" accounting firms, systems consulting and implementation firms,
applications software development and maintenance firms, service groups of
computer equipment companies and temporary staffing firms. In Applications
Outsourcing and e-Business services, the Company competes primarily with IBM
Global Solutions, Keane, EDS, Cognizant and Accenture, as well as India-based
companies including TCS, Infosys, and Wipro.
AVAILABLE INFORMATION
Syntel makes available, free of charge, through it's investor
relations website its Annual Reports on Form 10-K, Quarterly Reports on Form
10-Q, Current Reports on Form 8-K, and amendments to those reports filed or
furnished pursuant to Section 13(a) or 15 (d) of the Exchange Act, as soon as
reasonably practicable after they are electronically filed with or furnished to
the SEC. The URL for Syntel's investor relations web site is www.syntelinc.com.
27
EXECUTIVE OFFICERS OF THE REGISTRANT
The executive officers of the Registrant, their ages, and the position
or office held by each, are as follows:
NAME AGE POSITION
---- --- --------
Bharat Desai 52 Chairman, President and
Chief Executive Officer
Neerja Sethi 50 Vice President, Corporate
Affairs and Director
Keshav Murugesh 41 Chief Operating Officer, Chief
Financial Officer and Treasurer
Daniel M. Moore 50 Chief Administrative Officer
and Secretary
Vinod Swami 43 Vice President, Global Sales
Marlin Mackey 54 Senior Vice President, Client
Partnerships
Chandrashekhar Venkatasubbu 38 Chief Delivery Officer
Prakash "Ken" Kenjale 55 Chief Technology Officer
- -----------------------------------------------------------------------
Bharat Desai is a co-founder of the Company and has served as its
President and Chief Executive Officer and as a Director since its formation in
1980. Mr. Desai was appointed Chairman of the Board in February 1999. Mr. Desai
is the spouse of Ms. Sethi.
Neerja Sethi is a co-founder of the Company and has served as a Vice
President, Corporate Affairs and as a Director since its formation in 1980. Ms.
Sethi is the spouse of Mr. Desai.
Keshav Murugesh was appointed as Chief Operating Officer of the
Company in October 2004. Mr. Murugesh joined the Company as Chief Financial
Officer in May 2002 and will continue as Acting Chief Financial Officer until
his successor is appointed. Prior to joining Syntel, Mr. Murugesh served as
Vice President Finance at ITC Infotech Ltd from October 2000 to May 2002. Prior
to this assignment, Mr. Murugesh served as Finance Head, Information Systems
Business from August 1999 to September 2000 at ITC Ltd, India.
Daniel M. Moore has served the Company as Chief Administrative
Officer, Secretary and General Counsel since August 1998.
Vinod Swami joined the Company in June 1993 and has served as Vice
President, Global Sales, since February 2005, in which capacity he is the head
of the sales department. Mr. Swami previously served as Vice President,
Strategic Sales from December 2002 to February 2005 and in various sales
positions prior to December 2002.
Marlin Mackey has served the Company as a Senior Vice President, since
January 2001 with responsibility for delivery and customer
28
relationship. From January 1999 until December 2000 he served the Company as
Vice President, Global Delivery West and Information Services.
Chandrashekhar Venkatasubbu joined the Company in October 2003 as
Chief Operating Officer (Europe and APAC) and Chief Delivery Officer. Prior to
joining Syntel, Mr. Chandrashekhar was the Global Head for the S-Governance
(public sector and e-governance) Practice at Tata Consultancy Services ("TCS")
from May 2001 to September 2003. He was the regional manager for the TCS
Development Center at Hyderabad and also was responsible for its operations
there from March 1999 to April 2001. From 1998 until the end of his tenure at
TCS, he also served on the management/strategy team.
Prakash "Ken" Kenjale has served the Company as Chief Technology
Officer since July 1995 with primary responsibility for new technology. Mr.
Kenjale also served as the interim chief operating officer from April 2003 to
October 2003.
ITEM 2. PROPERTIES.
The Company's headquarters and principal administrative, sales and
marketing, and system development operations are located in approximately
14,600 square feet of leased space in Troy, Michigan. The Company occupies
these premises under a lease expiring in May 2007. The Company's support center
is located in approximately 6,300 square feet of leased space in Cary, North
Carolina, under a lease, which expires March 31, 2005. The Company also leases
office facilities in Irvine, California; Santa Clara, California; Phoenix,
Arizona; Beaverton, Oregon; Schaumburg, Illinois; Dallas, Texas; Minneapolis,
Minnesota; New York, New York; Nashville, Tennessee; Santa Fe, New Mexico;
Natick, Massachusetts; Dublin, Ohio; London, England; Munich, Germany; Hong
Kong and Singapore.
Syntel leases approximately 65,140 square feet of office space in Mumbai,
India, under ten leases expiring on various dates from October 2006 to March
2009. These facilities house IT professionals, as well as its senior
management, finance and accounts, administrative personnel, human resources,
recruiting, and sales and marketing functions. During the year, Syntel leased
approximately 33,130 square feet of office space in Mumbai, India for
facilitating its BPO operations.
Additionally, Syntel has leased substantially all of an office building in
Chennai, India and three offices in Pune, India consisting of approximately
32,810 square feet and 63,490 square feet, respectively. The lease terms expire
April 2006 and June 2005 to October 2006, respectively, all subject to the
Company's option to renew for an additional period of three/five years.
During the year, Syntel leased an additional 47,800 square feet of office
space in Chennai, India. The lease expires in September 2009.
In January 2001, the Company acquired 41 acres of land at the cost of
approximately $1.0 million for construction of a state-of-the-art development
and training campus in Pune, India. When fully completed, the facility will
cover over 1 million square feet and will accommodate 7,000 employees. It will
be both a customer and employee focused facility, including such amenities as
training facilities, cafeteria and fitness center. The Company has appointed a
leading project management company, finalized architectural drawings for Phase I
and has appointed contractors for all key elements of the project. The
superstructure of Phase 1 is near completion and work has begun on external
development and services works. The fit out plans for Phase 1 have been
completed and vendors to complete
29
those plans will be appointed by April 2005. Office buildings with space for 750
seats, a food court and dormitories are expected to be ready by the third
quarter of 2005.
Further, during the year, Company also acquired land measuring 1,200,000
square feet in an Information Technology Park in Chennai, India.
The Company believes that the existing facilities and planned development
in Pune and Chennai are adequate for its currently anticipated future needs.
ITEM 3. LEGAL PROCEEDINGS:
The Company is not currently a party to any material legal proceeding or
governmental investigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Company's shareholders during
the fourth quarter of the year ended December 31, 2004.
30
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES.
(a) The Registrant's Common Stock is traded on the NASDAQ National
Market under the symbol "SYNT." The following table sets forth, for the periods
indicated, the range of high and low sales prices per share of the Company's
Common Stock as reported on NASDAQ for each full quarterly period in 2003 and
2004.
Period High Low
- ----------------------------------------------------------------------------------------------------------
First Quarter, 2003 25.500 16.510
Second Quarter, 2003 19.929 13.300
Third Quarter, 2003 29.830 15.590
Fourth Quarter, 2003 28.300 22.190
First Quarter, 2004 30.900 24.320
Second Quarter, 2004 28.370 16.210
Third Quarter, 2004 17.880 13.770
Fourth Quarter, 2004 20.000 16.250
(b) There were approximately 786 shareholders on record and 2,600
beneficial holders on February 24, 2005.
(c) The Company did not pay any cash dividends during the year ended
December 31, 2002. The Board of Directors at its meeting dated July 28, 2003
declared a one-time special dividend of $1.25 per share payable to Syntel
shareholders of record at the close of business on August 29, 2003. In
addition, the Board of Directors at the same meeting approved the initiation of
quarterly cash dividends, with the initial dividend rate to be $0.06 per share
per quarter. The Company paid cash dividends of $0.24 and $1.37 per share for
the years ended December 31, 2004 and 2003.
(d) EQUITY COMPENSATION PLAN INFORMATION
The following table sets forth, with respect to the Company's equity
compensation plans, (i) the number of shares of common stock to be issued upon
the exercise of outstanding options, (ii) the weighted average exercise price
of outstanding options, and (iii) the number of shares remaining available for
future issuance, as of December 31, 2004.
- --------------------------------------------------------------------------------------------------------------------
NUMBER OF SECURITIES
REMAINING AVAILABLE FOR
NUMBER OF SECURITIES TO BE WEIGHTED-AVERAGE EXERCISE FUTURE ISSUANCE UNDER
ISSUED UPON EXERCISE OF PRICE OF OUTSTANDING EQUITY COMPENSATION PLANS
OUTSTANDING OPTIONS, OPTIONS, WARRANTS, AND (EXCLUDING SECURITIES
PLAN CATEGORY WARRANTS, AND RIGHTS RIGHTS ($) REFLECTED IN COLUMN (1))
- --------------------------------------------------------------------------------------------------------------------
Equity compensation plans 883,323 10.93 2,411,844
approved by shareholders
- --------------------------------------------------------------------------------------------------------------------
Equity compensation plans - - -
not approved by shareholders
- --------------------------------------------------------------------------------------------------------------------
TOTAL 883,323 10.93 2,411,844
====================================================================================================================
31
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
SYNTEL, INC. & Subsidiaries
(In thousands, except share data)
The following tables set forth selected consolidated financial data and other
data concerning Syntel, Inc. for each of the last five years. The selected
financial data should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the Consolidated
Financial Statements and related Notes thereto.
YEAR ENDED DECEMBER 31,
2004 2003 2002 2001 2000
---------------------------------------------------------------------------
(IN THOUSANDS, EXCEPT SHARE DATA)
STATEMENT OF INCOME DATA
Net revenues (1) $ 186,573 $ 179,507 $ 161,507 $ 172,283 $ 166,240
Cost of revenues 107,120 101,699 94,010 106,943 106,034
Gross profit 79,453 77,808 67,497 65,340 60,206
Selling, general and administrative
expenses 36,999 28,278 31,421 34,522 34,424
Capitalized development cost
impairment - - - 1,624 -
(Reduction in) / increases to
reserve requirements applicable to
Metier transaction - (882) (5,698) - 21,650
Income from operations 42,454 50,412 41,774 29,194 4,132
Other income, principally interest 3,773 3,168 3,191 3,780 3,412
Income before income taxes 46,227 53,580 44,965 32,974 7,544
Income tax provision (benefit) 5,253 13,242 12,338 8,636 (967)
Net income before loss from equity
Investments and investment write
off 40,974 40,338 32,627 24,338 8,511
Loss from equity investments and
investment write offs (net of tax) - 34 141 3,893 526
Net income $40,974 $40,304 $32,486 $20,445 $7,985
Net income per share, diluted $1.01 $0.99 $0.81 $0.52 $0.20
Cash dividends declared per common
share $ 0.24 $1.37 - - -
Weighted average shares outstanding,
diluted 40,469 40,797 39,917 38,987 39,467
===========================================================================
32
YEAR ENDED DECEMBER 31,
2004 2003 2002 2001 2000
---------------------------------------------------------------------------
(IN THOUSANDS)
BALANCE SHEET DATA
Working capital $170,786 $142,207 $145,988 $103,502 $77,894
Total assets 226,968 185,198 183,572 152,247 132,898
Long-term debt - - - - -
Total shareholders' equity 190,642 153,406 154,844 112,258 96,683
OTHER DATA
Billable headcount in U.S. 1,145 1,138 1,111 987 994
Billable headcount in India 1,906 1,376 943 419 511
Billable headcount at other
locations 121 150 101 138 118
---------------------------------------------------------------------------
Total billable headcount 3,172 2,664 2,155 1,544 1,623
===========================================================================
(1) The Company adopted the provisions of Emerging Issues Task Force (EITF)
Issue No. 01-14, "Income Statement Characterization of `Out of Pocket'
Expenses Incurred" effective January 1, 2002. Revenues for 2001 and 2000
have been reclassified to comply with the guidance of EITF 01-14.
33
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
CRITICAL ACCOUNTING POLICIES
- -----------------------------
We believe the following critical accounting policies, among others,
involve our more significant judgments and estimates used in the preparation of
our consolidated financial statements. The Company has discussed the critical
accounting policies and estimates with the Audit Committee of the Board of
Directors.
REVENUE RECOGNITION. Revenue recognition is the most significant
accounting policy for the Company. The Company recognizes revenue from time and
material contracts as services are performed. During the years ended December
31, 2004 and 2003, revenues from time and material contracts constituted 46%
and 48%, respectively of total revenues. Revenue from fixed-price, application
management, maintenance and support engagements is recognized as earned, which
generally results in straight-line revenue recognition as services are
performed continuously over the term of the engagement. During the years ended
December 31, 2004, and 2003, revenues from fixed price application management
and support engagements constituted 33% and 27%, respectively.
Revenue on fixed price development projects is measured using the
proportional performance method of accounting. Performance is generally
measured based upon the efforts incurred to date in relation to the total
estimated efforts to the completion of the contract. The Company monitors
estimates of total contract revenues and cost on a routine basis throughout the
delivery period. The cumulative impact of any change in estimates of the
contract revenues or costs is reflected in the period in which the changes
become known. In the event that a loss is anticipated on a particular contract,
provision is made for the estimated loss. The Company issues invoices related
to fixed price contracts based on either the achievement of milestones during a
project or other contractual terms. Differences between the timing of billings
and the recognition of revenue based upon the proportional performance method
of accounting are recorded as revenue earned in excess of billings or deferred
revenue in the accompanying financial statements. During the years ended
December 31, 2004 and 2003, revenues from fixed price development contracts
constituted 21% and 25%, respectively.
SIGNIFICANT ACCOUNTING ESTIMATES
The preparation of the consolidated financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and judgments that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the consolidated financial statements, and the reported amounts of revenues
and expenses for the reporting period. By their nature, these estimates and
judgments are subject to an inherent degree of uncertainty. The Company bases
it's estimates and judgments on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances. Actual
results could differ from those estimates.
REVENUE RECOGNITION. The use of the proportional performance method of
accounting requires that the Company makes estimates about it's future efforts
and costs relative to the fixed price contracts. While the Company has
procedures in place to monitor the estimates throughout the performance period,
such estimates are subject to change as each contract progresses.
The cumulative impact of any such changes is reflected in the period in which
the changes become known.
34
ALLOWANCE FOR DOUBTFUL ACCOUNTS. The Company records an allowance for
doubtful accounts based on a specific review of aged receivables. The provision
for the allowance for doubtful accounts is recorded in selling, general and
administrative expenses. At December 31, 2004 and 2003, the allowance for
doubtful accounts was $1.2 million and $0.8 million respectively. These
estimates are based on our assessment of the probable collection from specific
customer accounts, the aging of the accounts receivable, analysis of credit
data, bad debt write-offs, and other known factors.
INCOME TAXES--ESTIMATES OF EFFECTIVE TAX RATES AND RESERVES FOR TAX
CONTINGENCIES. When preparing our financial statements, the Company records
provisions for income taxes based on enacted tax laws and rates in the various
taxing jurisdictions in which it operates.
In determining the tax provisions, the Company also provides for tax
contingencies based on the Company's assessment of future regulatory reviews of
filed tax returns. Such reserves, which are recorded in income taxes payable,
are based on management's estimates and accordingly are subject to revision
based on additional information. The provision no longer required for any
particular tax year, is credited to the current period's income tax expenses.
During 2004, the Company has reversed $1.7 million of the tax provision related
to the year 2000 and credited it to the current period's income tax expenses.
In addition, during 2004 Syntel India has accounted for a credit of
approximately $0.5 million in respect of US branch profit taxes related to
prior periods up to June 30, 2004.
The revision in estimates noted above had an after tax impact of increasing the
diluted earnings per share for the year ended December 31, 2004 by $0.05 per
share.
ACCRUALS FOR LEGAL EXPOSURES. The Company estimates the costs
associated with legal exposures that it has and the related legal expenses and
records the probable liability if it can be reasonably estimated or the lower
end of a range, if the amount cannot be reasonably estimated. The accrual
related to litigation and legal fees at December 31, 2004 and 2003, was $0.1
million and $0.1 million, respectively.
OVERVIEW
Syntel is a worldwide provider of professional IT consulting and
applications management services to Global 2000 companies, as well as to
government entities. The Company's service offerings include Applications
Outsourcing, consisting of application management services for ongoing
management, development and maintenance of business applications; e-Business,
consisting of the integration and development of advanced technology
applications including E-commerce, Web development, Data Warehousing, CRM,
Oracle, and SAP; as well as partnerships with leading software and IT
application software infrastructure providers to provide it's implementation,
customization, migration and maintenance services including BEA Systems, IBM,
Informatica, Microsoft, Oracle, Sun, TIBCO, Microstrategy, Cognos, Identify,
Mercury, Borland, Citrix, Broadvision and Vianeta and TeamSourcing, consisting
of professional IT consulting services.
Through BPO, Syntel provides outsourced solutions for a client's
business processes, providing them with the advantage of a low cost
35
position and process enhancement through optimal use of technology. Syntel uses
a proprietary tool called IdenteonTM to assist with strategic assessments of
business processes, identifying the right ones for outsourcing.
The Company's revenues are generated from professional services fees
provided through four segments, Applications Outsourcing, e-Business,
TeamSourcing and BPO. The Company has invested significantly in developing its
ability to sell and deliver Applications Outsourcing and e-Business services,
and has shifted a larger portion of its business to engagements within these
two segments, which the Company believes have higher growth and gross margin
potential. The following table outlines the revenue mix for the years ended
December 31, 2004, 2003, and 2002:
PERCENT OF TOTAL REVENUES
2004 2003 2002
------------------------------------------------
Applications Outsourcing 76% 76% 71%
e-Business 16 19 20
TeamSourcing 7 5 9
BPO 1 0 0
------------------------------------------------
100% 100% 100%
================================================
On Applications Outsourcing engagements, the Company typically assumes
responsibility for engagement management and generally is able to allocate
certain portions of the engagement to on-site, off-site and offshore personnel.
Syntel may bill the customer on either a time-and-materials or fixed-price
basis. Against a significant portion of Applications Outsourcing engagements,
executed historically, on a time-and-materials basis, a significant share of
the new Applications Outsourcing engagements have started on a fixed-price
basis during 2004, 2003 and 2002. For the years ended December 31, 2004, 2003
and 2002, fixed-price revenues from development and maintenance activity
comprised approximately 58%, 56% and 65% of total Applications Outsourcing
revenues, respectively.
The Company re-skilled a very significant percentage of the consulting
base during 2002, 2003 and 2004 in the latest advanced software platforms,
including JAVA, Object Oriented, C++, C-Sharp, .NET, RMI Corba, SAP,
PeopleSoft, ETL, Datastage, Ab-initio, Informatica and Microstrategy. The
Company has focused training efforts on consultants assigned to TeamSourcing
engagements, and as a result, has successfully migrated such consultants to the
growing e-Business segment. The Company has also cross trained its employees on
current outsourcing engagements to be able to successfully migrate to and
develop/ maintain the emerging technologies that our clients are investing in.
Historically, most e-business engagements were billed on a time and
materials basis under the direct supervision of the customer (similar to
TeamSourcing engagements); however, as the Company expanded its expertise in
delivering e-commerce engagements, Syntel has assumed the project management
role and entered into fixed-price arrangements for a significant number of new
e-Business engagements started during 2004, 2003 and 2002. For the years ended
December 31, 2004, 2003 and 2002, fixed price revenues from development and
maintenance activity comprised approximately 54%, 51% and 24% of total
e-business revenues, respectively.
On TeamSourcing engagements, Syntel's professional services typically
36
are provided at the customer's site and under the direct supervision of the
customer. TeamSourcing revenues generally are recognized on a
time-and-materials basis as services are performed. As indicated in the above
table, the Company's dependence on TeamSourcing engagements has decreased
significantly and is expected to continue to decrease as a percentage of the
total revenue base as the Company consciously refocuses its sales efforts and
migrates resources to e-Business and Applications Outsourcing engagements.
On BPO engagements, services are provided at our offshore facility,
which gives the benefit of lower cost to the customer. BPO revenues generally
are recognized on a time-and-materials basis as services are performed. For the
year ended December 31, 2004, the revenue from BPO engagements comprised
approximately 1% of total revenues.
The Company's most significant cost is personnel cost, which consists
of compensation, benefits, recruiting, relocation and other related costs for
its IT professionals. The Company strives to maintain its gross margin by
migrating more revenue toward Applications Outsourcing and e-Business,
controlling engagement costs, and offsetting increases in salaries and benefits
with increases in billing rates. The Company has established a human resource
allocation team whose purpose is to staff IT professionals on engagements that
efficiently utilize their technical skills and allow for optimal billing rates.
Syntel India, a wholly owned subsidiary of the Company, provides software
development services from Mumbai, Pune and Chennai, India, where salaries of IT
professionals are comparatively lower than in the U.S.
The Company has performed a significant portion of its employee
recruiting in other countries. As of December 31, 2004, approximately 49% of
Syntel's U.S. workforce (14% of Syntel's worldwide workforce) worked under H-1B
visas (permitting temporary residence while employed in the U.S.) and another
16% of the Company's U.S. workforce (5% of the Company's worldwide workforce)
worked under L-1 visas (permitting inter-company transfers of employees that
have been employed with a foreign subsidiary for at least 6 months).
The Company has made substantial investments in infrastructure in
recent years, including: (i) expanding the facilities in Mumbai, India,
including a BPO facility; (ii) developing a Technology Campus in Pune, India;
(iii) expanding the Global Development Center in Chennai, India; (iv) upgrading
of the Company's global telecommunication network; (v) increasing Applications
Outsourcing sales and delivery capabilities through significant expansion of
the sales force and the Strategic Solutions Group, which develops and
formalizes proprietary methodologies, practices and tools for the entire Syntel
organization; (vi) hiring additional experienced senior management; (vii)
expanding global recruiting and training capabilities; and (viii) enhancing
human resource and financial information systems.
Through its strong relationships with customers, the Company has been
able to generate recurring revenues from repeat business. These strong
relationships also have resulted in the Company generating a significant
percentage of revenues from key customers. The Company's top ten customers
accounted for approximately 61%, 64% and 71% of revenues for the years ended
December 31, 2004, 2003, and 2002, respectively.
For the years ended December 31, 2004, 2003 and 2002 only one customer
contributed revenues in excess of 10% of total consolidated revenues. The
Company's largest customer for 2004, 2003 and 2002 was American Express
contributing approximately 16%, 16% and 18%, respectively
37
of total consolidated revenues. Although the Company does not currently foresee
a credit risk associated with accounts receivable from these customers, credit
risk is affected by conditions or occurrences within the economy and the
specific industries in which these customers operate.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated selected
income statement data as a percentage of the Company's net revenues.
PERCENTAGE OF REVENUES
YEAR ENDED DECEMBER 31,
2004 2003 2002
---------------------------------------------------
Net Revenues 100.0% 100.0% 100.0%
Cost of revenues 57.4 56.7 58.2
---------------------------------------------------
Gross profit 42.6 43.3 41.8
Selling, general and administrative
expenses 19.8 15.8 19.5
Reduction in reserve requirements
applicable to Metier transaction - (0.5) (3.5)
INCOME FROM OPERATIONS 22.8% 28.0% 25.8%
38
Following is selected segment financial data for the years ended December
31, 2004, 2003 and 2002. The Company does not allocate assets to operating
segments:
2004 2003 2002
-------------------------------------------
(In Thousands)
Net Revenues
Applications Outsourcing $143,007 $136,424 $113,981
e-Business 29,249 33,795 31,951
TeamSourcing 12,480 9,288 15,575
BPO 1,837 - -
-------------------------------------------
$186,573 $179,507 $161,507
Gross Margin
Applications Outsourcing $62,696 $62,282 $54,053
e-Business 11,302 14,389 11,429
TeamSourcing 4,598 1,137 2,015
BPO 857 - -
-------------------------------------------
$79,453 $77,808 $67,497
Gross Margin %
Applications Outsourcing 43.8% 45.7% 47.4%
e-Business 38.6% 42.6% 35.8%
TeamSourcing 36.8% 12.2% 12.9%
BPO 46.7% - -
-------------------------------------------
42.6% 43.3% 41.8%
Sales, general and administrative expenses $36,999 $28,278 $31,421
Reduction in reserve requirements for
Metier transaction - (882) $(5,698)
INCOME FROM OPERATIONS $42,454 $50,412 $41,774
-------------------------------------------
39
COMPARISON OF YEARS ENDED DECEMBER 31, 2004 AND 2003.
REVENUES. Net revenues increased from $179.5 million in 2003 to $186.6 million
in 2004, representing a 3.9% increase. During the first quarter of 2004 the
Company entered into its first Business Process Outsourcing (BPO) agreement,
which contributed $1.8 million revenue for the year 2004. Further, our revenues
have increased primarily consequent to our increased workforce. Information
technology offshoring is clearly becoming a mega trend with increasing numbers
of Global Corporations aggressively outsourcing their crucial applications
development or Business Processes to vendors with an offshore presence. Syntel
too has benefited from this trend. At the beginning of 2004, the Company
introduced the Client Partner Program, which enabled better relationships with
key customers leading to growth in business. Worldwide billable headcount,
including personnel employed by Syntel India, Syntel Singapore, Syntel Europe,
and Syntel Germany as of December 31, 2004 increased 19% to 3,172 employees as
compared to 2,664 employees as of December 31, 2003. However, the growth in
revenues was not commensurate with the growth in the billable headcount. This
is primarily because a significant growth in the billable headcount was in
India, where our recoveries per offshore billable resource is generally lower
as compared to an on-site based resource. As of December 31, 2004, the Company
had approximately 60% of its billable workforce in India as compared to 52% as
of December 31, 2003. The Company also decreased its dependence on its larger
customers. The top five customers accounted for 40% of the total revenues in
2004, down from 42% of the total revenues in 2003. Moreover, the top 10
customers accounted for 61% of the revenues in 2004 as compared to 64% in 2003.
APPLICATIONS OUTSOURCING REVENUES. Applications Outsourcing revenues increased
from $136.4 million, or 76% of total revenues in 2003, to $143.0 million, also
76% of total revenues in 2004. The $6.6 million increase is attributable
principally due to revenue from new engagements, contributing $45.9 million
partially offset by a net decrease in existing projects in the amount of $15.6
million and by $23.7 million in lost revenues as a result of project
completions.
APPLICATIONS OUTSOURCING COST OF REVENUES. Cost of revenues consists of costs
directly associated with billable consultants worldwide, including salaries,
payroll taxes, benefits, relocation costs, immigration costs, finders' fees,
and trainee compensation. Applications Outsourcing cost of revenues increased
to 56.2% of Applications Outsourcing revenues in 2004, from 54.3% in 2003. The
1.9% increase in cost of revenues as a percent of revenues was attributable
primarily to the aggressive offshore hiring during 2004, which impacted costs,
but did not necessarily add to revenues as a significant number of these hires
went into training.
E-BUSINESS REVENUES. e-Business revenues decreased from $33.8 million in 2003,
or 19% of total consolidated revenues, to $29.2 million in 2004, or 16% of
total consolidated revenues. The $4.6 million decrease was attributable
principally to lost revenues as a result of project completion and net
reduction in revenues from existing projects contributing approximately $12.2
million, partially offset by approximately $5.9 million in revenue from new
engagements and a nonrecurring $1.7 million reduction in revenue in 2003
resulting from a regular warrant granted to a significant customer as a sales
incentive.
E-BUSINESS COST OF REVENUES. Cost of revenues consists of costs directly
associated with billable consultants, including salaries, payroll taxes,
benefits, relocation costs, immigration costs, finders' fees, and trainee
compensation. e-Business cost of revenues increased to 61.4% of e-business
40
revenues in 2004, from 57.4% in 2003, an increase of 4.0%. This increase was
attributable primarily to the aggressive hiring which impacted costs, but did
not necessarily add to revenues as a significant number of these hires were
still in training.
TEAMSOURCING REVENUES. TeamSourcing revenues increased from $9.3 million, or 5%
of total consolidated revenues in 2003, to $12.5 million, or 7% of total
consolidated revenues in 2004. The $3.2 million increase is attributable
principally to revenue from new engagements and increased revenue of $4.7
million from the SkillBay web portal partially offset by $1.5 million in lost
revenues as a result of project completion and net reduction in revenues from
exiting projects.
TEAMSOURCING COST OF REVENUES. TeamSourcing cost of revenues consists of costs
directly associated with billable consultants, including salaries, payroll
taxes, benefits, relocation costs, immigration costs, finders' fees, and
trainee compensation. TeamSourcing cost of revenues decreased to 63.2% of
TeamSourcing revenues in 2004, from 87.8% in 2003. The 24.6% decrease in cost
of revenues, as a percent of total TeamSourcing revenues was attributable
primarily to the higher margin TeamSourcing placements and net revenues from
SkillBay web portal placements during 2004.
BPO REVENUES. The BPO segment started contributing revenues during 2004.
Revenues from this segment were $1.8 million or 1% of total revenues for the
year ended 2004.
BPO COST OF REVENUES. The BPO segment cost of revenues consists of costs
directly associated with billable consultants, including salaries, payroll
taxes, benefits, finders fees, trainee compensation, travel, consumables as
well as dedicated connectivity charges. The BPO segment cost of revenues was
53.3% of the segment's revenues for the year ended December 31, 2004.
As a result of the continued uncertainty and weakness in the global economic
and political environment, companies continue to seek to outsource their IT
spending offshore. However, the Company also sees clients' needs to reduce
their costs and the increased competitive environment among IT companies. The
Company expects these conditions to continue in the next few quarters. In
response to the continued pricing pressures and increased competition for
outsourcing clients, the Company continues to focus on expanding its service
offerings into areas with higher and sustainable price margins, managing its
cost structure, and anticipating and correcting for decreased demand and skill
and pay level imbalances in its personnel. The Company's immediate measures
include increased management of compensation expenses through headcount
management and variable compensation plans, as well as increasing utilization
rates or reducing non-deployed sub-contractors or non-billable IT
professionals.
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES. Selling, general, and
administrative expenses consist primarily of salaries, payroll taxes and
benefits for sales, solutions, finance, administrative, and corporate staff, as
well as travel, telecommunications, business promotions, marketing and various
facility costs for the Company's Global Development Centers and various
offices.
Selling, general, and administrative costs for the year ended December 31, 2004
were $37.0 million or 19.8% of total revenues, compared to $28.3 million or
15.8% of total revenues for the year ended December 31, 2003.
Selling, general, and administrative costs for the year ended December 31, 2003
includes net reversals of $0.5 million primarily on account of successful
recovery of receivables previously provided for as allowance for
41
doubtful accounts, a $2.0 million revision of the estimated reserve for
litigation and legal fees due to settlements and other changes in estimates of
underlying legal costs, a $0.7 million reduction in office related expenses due
to the settlement of vendor disputes, and a downward revision of the 2002
estimates of bonus compensation of $0.8 million.
After considering the impact of the above-mentioned items, the selling,
general, and administrative expenses are at 19.8% and 18.0% of total revenues,
for the years ended December 31, 2004 and 2003, respectively. The 1.8
percentage point increase in selling, general, and administrative expenses as a
percentage of revenue is primarily due to net increases in costs related to
depreciation of $1.0 million, communication expenses of $0.9 million,
compensation and hiring related expense in US and India of $0.6 million, travel
expenses of $0.4 million, marketing expenses of $0.3 million and corporate
expenses of $1.5 million, which resulted in an approximately 2.6 percentage
point increase, partially offset by increases in revenue during the twelve
months ended December 31, 2004 as against the twelve months ended December 31,
2003, which resulted in an approximately 0.8 percentage point decrease.
COMPARISON OF YEARS ENDED DECEMBER 31, 2003 AND 2002.
REVENUES. Net revenues increased from $161.5 million in 2002 to $179.5 million
in 2003, representing an 11.1% increase. Worldwide billable headcount,
including personnel employed by Syntel India, Syntel Singapore, Syntel Europe,
and Syntel Germany as of December 31, 2003 increased 24% to 2,664 employees as
compared to 2,155 employees as of December 31, 2002. However, the growth in
revenues was not commensurate with the growth in the billable headcount. This
is primarily because a significant growth in the billable headcount was in
India, where our recoveries per off-shore billable resource is generally lower
as compared to an on-site based resource. As of December 31, 2003, the Company
had approximately 52% of its billable workforce in India as compared to 44% as
of December 31, 2002. Further, revenue generation from these additional
billable headcounts started primarily during the second half of the year 2003.
The Company also decreased its dependence on its larger customers. The top five
customers accounted for 42% of the total revenues in 2003, down from 48% of the
total revenues in 2002. Moreover, the top 10 customers accounted for 64% of the
revenues in 2003 as compared to 71% in 2002.
APPLICATIONS OUTSOURCING REVENUES. Applications Outsourcing revenues increased
from $114.0 million, or 71% of total revenues in 2002, to $136.4 million, or
76% of total revenues in 2003. The $22.5 million increase is attributable
principally due to revenue from new engagements, contributing $37.9 million and
net increase in existing projects contributing $4.2 million; partially offset
by $19.6 million in lost revenues as a result of project completions.
APPLICATIONS OUTSOURCING COST OF REVENUES. Cost of revenues consists of costs
directly associated with billable consultants in both the U.S. and offshore,
including salaries, payroll taxes, benefits, relocation costs, immigration
costs, finders' fees, and trainee compensation. Applications Outsourcing cost of
revenues increased to 54.3% of Applications Outsourcing revenues in 2003, from
52.6% in 2002. The 1.7% increase in cost of revenues as a percent of revenues
was partly attributable to the aggressive hiring during the second half of 2003
which impacted costs, but did not necessarily add to revenues as a significant
number of these hires went into training. This contributed approximately 0.4% of
the increase. Additionally, due to an internal policy change during 2002, there
was a release of vacation reserves in 2002 related to unused employee vacation
time. This resulted in a lower cost of revenues during 2002
42
and contributes approximately 1.3% to the increase during 2003.
E-BUSINESS REVENUES. e-Business revenues increased from $32.0 million in 2002,
or 20% of total consolidated revenues, to $33.8 million in 2003, or 19% of
total consolidated revenues. During 2002, the Company had granted a sales
incentive to a significant customer of $2.9 million as compared to only $1.7
million during 2003, a decrease of $1.2 million. Net of this decrease in the
sales incentive, e-Business revenues have generally remained flat during 2003
as compared to 2002. Increase of revenue from new engagements contributed $14.8
million, offset by $14.2 million in lost revenues as a result of project
completion and net reductions in existing projects.
E-BUSINESS COST OF REVENUES. Cost of revenues consists of costs directly
associated with billable consultants, including salaries, payroll taxes,
benefits, relocation costs, immigration costs, finders' fees, and trainee
compensation. e-Business cost of revenues decreased to 57.4% of e-Business
revenues in 2003, from 64.2% in 2002, a decrease of 6.8%. As referred to above,
during 2002, e-Business revenues were lower primarily due to a sales incentive,
which had been granted to a significant customer. This incentive resulted in a
5.5% increase in the cost of revenues as a percentage of revenues.
Additionally, increased utilization of our offshore resources has also
contributed to a reduction of the cost of revenues of approximately 2.2%. These
decreases were partially offset by an increase in the cost of revenues as a
percent of revenues attributable to the release of vacation reserves in 2002
related to unused employee vacation time, due to an internal policy change,
which resulted in an increase of approximately 0.9%.
TEAMSOURCING REVENUES. TeamSourcing revenues decreased from $15.6 million, or
9% of total consolidated revenues in 2002, to $9.3 million, or 5% of total
consolidated revenues in 2003. The $6.3 million decrease in TeamSourcing
revenues was attributable principally to a decrease in US based billable
consultants on various engagements, as a result of a conscious decision by
management to reduce organizational focus on this segment and focus on higher
margin segments of Applications Outsourcing and e-Business.
TEAMSOURCING COST OF REVENUES. TeamSourcing cost of revenues consists of costs
directly associated with billable consultants, including salaries, payroll
taxes, benefits, relocation costs, immigration costs, finders' fees, and
trainee compensation. TeamSourcing cost of revenues increased marginally to
87.8% of TeamSourcing revenues in 2003, from 87.1% in 2002. The 0.7% increase
in cost of revenues as a percent of revenues was attributable principally to
lower utilization of our resources due to the softness in the economy.
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES. Selling, general, and
administrative expenses consist primarily of salaries, payroll taxes and
benefits for sales, solutions, finance, administrative, and corporate staff,
travel, telecommunications, business promotions, marketing and various facility
costs for the Company's Global Development Centers and various offices.
Selling, general, and administrative costs for the year ended December 31,
2003 were $28.3 million or 15.8% of total revenues, compared to $31.4 million
or 19.5% of total revenues for the year ended December 31, 2002.
Selling, general, and administrative costs for the year ended December 31, 2003
includes net reversals of $0.5 million primarily on account of successful
recovery of receivables previously provided for as allowance for
43
doubtful accounts, $2.0 million revision of the estimated reserve for litigation
and legal fees due to settlements and other changes in estimates of underlying
legal costs, $0.7 million reduction in office related expenses due to the
settlement of vendor disputes, and a downward revision of the 2002 estimates of
bonus compensation of $0.8 million.
Selling, general, and administrative costs for the year ended December 31, 2002
included an additional reserve of $2.0 million due to a revision of the
estimated reserve for litigation and legal fees due to changes in estimates of
underlying legal costs, an additional reserve of $0.5 million as an allowance
for doubtful accounts, a downward revision of the 2001 estimates of bonus
compensation of $2.8 million, an additional reserve for bonus for the year 2002
of $2.0 million and a $0.3 million reduction in office related expenses due to
reversal of outstanding checks pertaining to earlier periods.
After considering the impact of non-recurring items, the selling, general, and
administrative expenses are at 18.0% and 19.8% of total revenues, for the years
ended December 31, 2003 and 2002, respectively. The 1.8% reduction in selling,
general, and administrative expenses as a percentage of revenue is primarily on
account of increase in revenue in 2003 over 2002.
QUARTERLY RESULTS OF OPERATIONS
Note 19 of the consolidated financial statements appearing elsewhere
in this document sets forth certain quarterly income statement data for each of
the eight quarters beginning January 1, 2003 and ended December 31, 2004. In
the opinion of management, this information has been presented on the same
basis as the Company's Financial Statements appearing elsewhere in this
document and all necessary adjustments (consisting only of normal recurring
adjustments) have been included in order to present fairly the unaudited
quarterly results. The results of operations for any quarter are not
necessarily indicative of the results for any future period.
The Company's quarterly revenues and results of operations have not
fluctuated significantly from quarter to quarter in the past but could
fluctuate in the future. Factors that could cause such fluctuations include:
the timing, number and scope of customer engagements commenced and completed
during the quarter; fluctuation in the revenue mix by segments; progress on
fixed-price engagements; acquisitions; timing and cost associated with
expansion of the Company's facilities; changes in IT professional wage rates;
the accuracy of estimates of resources and time frames required to complete
pending assignments; the number of working days in a quarter; employee hiring
and training, attrition and utilization rates; the mix of services performed
on-site, off-site and offshore; termination of engagements; start-up expenses
for new engagements; longer sales cycles for Applications Outsourcing
engagements; customers' budget cycles and investment time for training.
LIQUIDITY AND CAPITAL RESOURCES
The Company generally has financed its working capital needs through
operations. Both the Mumbai and Chennai expansion programs, as well as the 1999
acquisitions of Metier, Inc. and IMG, Inc. were financed from internally
generated funds. Additionally, construction of the Technology Campus in Pune,
India is being financed through internally generated funds.
The Company's cash and cash equivalents consist primarily of
certificates of deposit, corporate bonds and treasury notes. A part of such
amounts are held by Bank One for which a triple A rated letter of credit
44
has been provided. Remaining amounts are held by various banking institutions
including other U.S.-based and India-based banks.
Net cash provided by operating activities was $48.5 million, $44.1
million and $32.7 million for the years ended December 31, 2004, 2003 and 2002,
respectively. The number of days sales outstanding in accounts receivable was
approximately 61 days, 60 days and 56 days as of December 31, 2004, 2003 and
2002, respectively.
Net cash used in investing activities was $33.1 million for the year
ended December 31, 2004. During 2004, the Company invested $94.3 million to
purchase short-term investments and $12.0 million for capital expenditures,
consisting principally of PCs, communications equipment and infrastructure and
facilities. This was partially offset by the sale of short-term investments of
$73.2 million in equities and other investments.
Net cash used in investing activities was $20.2 million for the year
ended December 31, 2003. During 2003, the Company invested $52.3 million to
purchase short-term investments and $4.2 million for capital expenditures,
consisting principally of PCs, communications equipment and infrastructure and
facilities. This was partially offset by the sale of short-term investments of
$36.0 million and $0.3 million in equities and other investments.
Net cash provided by investing activities in 2002 of $8.7 million
included $30.6 million of proceeds from the sale of short-term investments,
partially offset by $19.8 million used to purchase short-term investments and
$2.1 million for capital expenditures, consisting principally of PCs, and
communications equipment.
Net cash used in financing activities in 2004 was $8.0 million, due
principally to the dividend distribution of $9.7 million and the repurchase of
100,000 shares of Common Stock for $1.4 million, partially offset by proceeds
from the issuance of shares under stock option and stock purchase plans of $3.1
million.
Net cash used in financing activities in 2003 was $45.9 million, due
principally to the dividend distribution of $52.3 million and the repurchase of
10,000 shares of Common Stock for $0.1 million, partially offset by proceeds
from the issuance of shares under stock option and stock purchase plans of $6.5
million.
Net cash provided by financing activities in 2002 was $3.3 million,
due principally to the proceeds from the issuance of shares under stock option
and stock purchase plans of $6.6 million, offset by the repurchase of 250,000
shares of Common Stock for $3.3 million.
The Company has a line of credit with Bank One, which provides for
borrowings up to $20.0 million. The line of credit has been renewed and now
expires on August 31, 2005. The line of credit contains covenants restricting
the Company from, among other things, incurring additional debt, issuing
guarantees and creating liens on the Company's property, without the prior
consent of the bank. The line of credit also requires the Company to maintain
certain tangible net worth levels and leverage ratios. The line of credit has a
sub-limit of $5.0 million for letters of credit, which bear a fee of 1% per
annum of the face value of each standby letter of credit issued. Borrowing under
the line of credit bears interest at (i) a formula approximating the Eurodollar
rate plus the applicable margin of 1.25%, (ii) the bank's prime rate minus 1.0%
or (iii) negotiated rate plus 1.25%. No borrowings were outstanding at December
31, 2004 and 2003.
45
The Company believes that the combination of present cash balances and
future operating cash flows will be sufficient to meet the Company's currently
anticipated cash requirements for at least the next 12 months.
The following table sets forth the Company's known contractual
obligations as of December 31, 2004:
($ '000)
- ------------------------------------------------------------------------------------------------------------------
CONTRACTUAL OBLIGATION PAYMENTS DUE BY PERIOD
- ------------------------------------------------------------------------------------------------------------------
TOTAL LESS THAN 1 1-3 YEARS 3-5 YEARS MORE THAN 5
YEAR YEARS
- ------------------------------------------------------------------------------------------------------------------
Long-Term Debt - - - - -
Capital Lease Obligations - - - - -
Operating Leases 10,117 2,373 4,085 3,356 303
Purchase Obligations 9,682 9,682 - - -
Other Long-Term Liabilities
Reflected on the Registrant's
Balance Sheet under GAAP - - - - -
- ------------------------------------------------------------------------------------------------------------------
Total 19,799 12,055 4,085 3,356 303
==================================================================================================================
Certain agreements for lease and purchase obligations included above are
cancelable with a specified notice period or penalty, however all contracts are
reflected in the table above as if they will be performed for the full term of
the agreement.
INCOME TAX MATTERS
Syntel's software development centers/units are located in Mumbai, Chennai and
Pune. Units in Mumbai are located in a Special Economic Zone (SEZ), the unit at
Chennai is 100% Export Oriented Unit (EOU) and units at Pune are registered
with Software Technologies Park of India (STPI). Under the Indian Income Tax
Act, 1961 (the "Act"), 100% EOUs at Chennai, units registered with STPI at Pune
and certain units located in SEZ are eligible for an exemption from payment of
corporate income taxes for up to 10 years of operations on the profits
generated from these undertakings or March 31, 2009 whichever is earlier.
Certain units located in SEZ are eligible for 100% exemption from payment of
corporate taxes for the first 5 years of operation and a 50% exemption for the
next 5 years.
With effect from 1st April 2003 one of the Company's Software
Development Units has ceased to enjoy the above-mentioned tax exemption.
Provision for Indian Income Tax is made only in respect of business profits
generated from this software development unit, to the extent they are not
covered by the above exemptions and on income from investments and interest
income.
The benefit of tax Holiday granted by the Indian authorities was $7.6
million, $9.1 million and $5.9 million for the years 2004, 2003 and 2002,
respectively.
The Company intends to use accumulated and future earnings of foreign
subsidiaries to expand operations outside the United States and accordingly
undistributed earnings of foreign subsidiaries are considered to be
indefinitely reinvested outside the United States and no provision for U. S.
federal and state income tax or applicable dividend distribution tax has been
provided thereon.
46
However, the American Jobs Creation Act of 2004 enacted on October 22,
2004 ("the Jobs Act") provides for reduced US income tax rates for repatriation
of foreign earnings that occurs prior to December 31, 2005. While the company
has no current plans for the repatriation of foreign earnings, the company is
evaluating the potential effects of the Jobs Act and foreign laws that might
effect any such repatriation. If the company determined to repatriate all
undistributed repatriable earnings of foreign subsidiaries as of December 31,
2004 (without considering the Jobs Act provisions), the company would have
accrued taxes of approximately $52.8 million. If the company determined to
repatriate all undistributed repatriable earnings of foreign subsidiaries
(under the Jobs Act), the company would accrue taxes, which would be material
in amount but significantly less than $52.8 million mentioned above.
The Company records provisions for income taxes based on enacted tax
laws and rates in the various taxing jurisdictions in which it operates. In
determining the tax provisions, the Company also provides for tax contingencies
based on the Company's assessment of future regulatory reviews of filed tax
returns. Such reserves, which are recorded in income taxes payable, are based
on management's estimates and accordingly are subject to revision based on
additional information. The provision no longer required for any particular tax
year, is credited to the current period's income tax expenses.
During the year ended December 31, 2004, the Company has reversed $1.7
million of such tax provision related to the year 2000 and credited it to the
current year's income tax expenses. During the year ended December 31, 2004,
2003 and 2002, the effective income tax rate was 11.4%, 24.7% and 27.4%
respectively. The effective income tax rate during the year ended December 31,
2004, without adjusting the above-mentioned reversal, the tax credit of $0.5
million in Syntel India and the research and development tax credit of $0.5
million in Syntel Inc., was 17.3%. The tax rate continues to be positively
impacted by the combined effects of offshore transition and reduced onsite
profitability.
Syntel India has not provided for disputed Indian income tax
liabilities aggregating $2.18 million for the financial years 1995-96 to
2000-01. Syntel India has obtained an opinion from one independent legal
counsel (former Chief Justice of the Supreme Court of India) for the financial
year 1998-99 and two opinions from another independent legal counsel (also a
former Chief Justice of the Supreme Court of India) for the financial years
1999-2000 and 2000-01, which support Syntel India's stand in this matter.
During the second quarter of 2004, Syntel India also obtained opinions from the
said legal counsel for the periods 1995-96 to 1997-98 and periods beginning
with financial year 2001-02 to date which also support Syntel India's stand in
this matter.
Syntel India had filed an appeal with Commissioner of Income Tax
(Appeals) for the financial year 1998-99 and received a favorable decision.
However the Income Tax Department has appealed this favorable decision with the
Income Tax Appellate Tribunal. A similar appeal filed by Syntel India with
Commissioner of Income Tax (Appeals) for the financial year 1999-2000 was
however dismissed in March 2004. Syntel India has appealed this decision with
the Income Tax Appellate Tribunal. Syntel India has since also received orders
for appeals filed with Commissioner of Income Tax (Appeals) against the demands
raised in March 2004 by the Income Tax Officer for similar matters relating to
the financial years 1995-96, 1996-97, 1997-98 and 2000-01 and received a
favorable decision for 1995-96 and for the other three years the contention of
Syntel India is partially upheld. Syntel India has gone into further appeal with
the Income tax Appellate Tribunal for the amounts not allowed by the
Commissioner of
47
Income Tax (Appeals).
Further, Syntel India has received demand for interest amounting to
$0.019 million and $0.013 million for late payment of demand pertaining to the
financial year 2000-01 and 1999-00 respectively, against which Syntel India had
filed appeals with Commissioner of Income Tax (Appeals). The said appeals have
been dismissed. Syntel India is in the process of filing petition with Chief
Commissioner of Income tax.
On February 28, 2005, Syntel India has received a demand from the Indian
income tax authorities for Indian Income tax of $3.403 million for the
financial year 2001-02. Out of this amount Syntel India has not provided for
$2.968 million. Syntel India has obtained an opinion from an independent legal
counsel (former Chief Justice of the Supreme Court of India) supporting Syntel
India's position for an item of dispute amounting to $0.386 million. For the
other items of dispute, Syntel India has obtained an opinion from another
independent legal counsel (former Chief Justice of the Supreme Court of India)
which supports Syntel India's stand in this matter. Further, Syntel India is in
the process of filing an appeal with the Commissioner of Income Tax (Appeals).
All above tax exposures involve complex issues and may need an
extended period to resolve the issues with Indian Income Tax Authorities.
TAX CREDIT
During the year ended December 31, 2004, the provision for income tax
was reduced by research and development tax credits claimed. The tax credits
relate to increased qualified expenditures for software development. The
Company recently completed a review of such qualified expenditures and filed
refund claims for the tax years ended December 31, 1999, 2000, 2001 and 2002.
The appropriate tax benefit for these years has been recorded currently in
conjunction with the completion of the review. This tax credit had a positive
impact of $0.5 million on taxes.
In addition, during the year ended December 31, 2004 Syntel India has
accounted for a credit of approximately $0.5 Million in respect of US branch
profit taxes related to prior periods up to June 30, 2004 and also reclassified
in the balance sheet $1.0 million from provision for income taxes to deferred
tax liability.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the FASB issued SFAS 123(R), which replaces SFAS 123,
"Accounting for Stock-Based Compensation", and supersedes APB Opinion No. 25,
"Accounting for Stock Issued to Employees." SFAS 123(R) requires compensation
costs relating to share-based payment transactions be recognized in financial
statements. The pro forma disclosure previously permitted under SFAS 123 will no
longer be an acceptable alternative to recognition of expenses in the financial
statements. SFAS 123(R) is effective as of the beginning of the first reporting
period that begins after June 15, 2005, with early adoption encouraged. The
Company currently measures compensation costs related to share-based payments
under APB 25, as allowed by SFAS 123, and provide disclosure in notes to
financial statements as required by SFAS 123. The Company is required to adopt
SFAS 123(R) starting from the third quarter of 2005. The Company expects the
adoption of SFAS 123(R) may have a material impact on its net income and net
income per share. The Company is currently in the process of evaluating the
extent of such impact.
48
In December 2004, FASB issued SFAS 153, "Exchanges of Non-monetary Assets--an
amendment to APB Opinion No. 29". This statement amends APB 29 to eliminate the
exception for non-monetary exchanges of similar productive assets and replaces
it with a general exception for exchanges of non-monetary assets that do not
have commercial substance. A non-monetary exchange has commercial substance if
the future cash flows of the entity are expected to change significantly as a
result of the exchange. Adoption of this statement is not expected to have a
material impact on our results of operations or financial condition.
In December 2004, FASB Staff Position No. FAS 109-2, "Accounting and Disclosure
Guidance for the Foreign Earnings Repatriation Provision within the American
Jobs Creation Act of 2004" ("FSP FAS 109-2") was issued, providing guidance
under SFAS 109, "Accounting for Income Taxes" for recording the potential
impact of the repatriation provisions of the American Jobs Creation Act of
2004, enacted on October 22, 2004. FSP FAS 109-2 allows time beyond the
financial reporting period of enactment to evaluate the effects of the Jobs Act
before applying the requirements of FSP FAS 109-2. Accordingly, the Company is
evaluating the potential effects of the Jobs Act and has not adjusted its tax
expense or deferred tax liability to reflect the requirements of FSP FAS 109-2.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company is exposed to the impact of interest rate changes and foreign
currency fluctuations.
INTEREST RATE RISK
The Company considers investments purchased with an original or remaining
maturity of less than three months at date of purchase to be cash equivalents.
The following table summarizes our cash and cash equivalents and investments in
marketable securities (in thousands):
DECEMBER 31, DECEMBER 31,
ASSETS 2004 2003
-----------------------------
Cash and cash equivalents $ 109,142 $ 102,854
Short term Investments 58,899 33,982
-----------------------------
Total $ 168,041 $ 136,836
=============================
The Company's exposure to market rate risk for changes in interest rates
relates primarily to our investment portfolio. The Company does not use
derivative financial instruments in its investment portfolio. The Company's
investments are in high-quality Indian Mutual Funds and, by policy, limit the
amount of credit exposure to any one issuer. At any time, changes in interest
rates could have a material impact on interest earnings for our investment
portfolio. The Company protects and preserves our invested funds by limiting
default, market and reinvestment risk. Investments in interest earning
instruments carry a degree of interest rate risk.
Floating rate securities may produce less income than expected if there is a
decline in interest rates. Due in part to these factors, the Company's future
investment income may fall short of expectations, or the Company may suffer a
loss in principal if the Company is forced to sell securities, which have
declined in market value due to changes in interest rates as stated above.
49
FOREIGN CURRENCY RISK
The Company's sales are primarily sourced in the United States and its
subsidiary in the United Kingdom and are mostly denominated in U.S. dollars or
UK pounds respectively. Its foreign subsidiaries incur most of their expenses
in the local currency. Accordingly, all foreign subsidiaries use the local
currency as their functional currency. The Company's business is subject to
risks typical of an international business, including, but not limited to
differing economic conditions, changes in political climate, differing tax
structures, other regulations and restrictions, and foreign exchange rate
volatility. Accordingly, the Company's future results could be materially
adversely impacted by changes in these or other factors. The risk is partially
mitigated as the Company has sufficient resources in the respective local
currencies to meet immediate requirements. The Company is also exposed to
foreign exchange rate fluctuations as the financial results of foreign
subsidiaries are translated into U.S. dollars in consolidation. As exchange
rates vary, these results, when translated, may vary from expectations.
During 2004, the Indian rupee has appreciated by 2% as compared to 2003,
which has marginally reduced the Company's gross margin by 0.3%. The Indian
rupee denominated cost of revenues and selling, general and administrative cost
were 27% and 24%, respectively, which did not have a significant impact.
Although the Company cannot predict future movement in interest rates
or fluctuations in foreign currency rates, the Company does not currently
anticipate that interest rate risk or foreign currency risk will have a
significant impact.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements filed herewith are set forth on the Index to
Financial Statements on page F-1 of the separate financial section which
follows page 57 of this Report and are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On July 21, 2004, the Audit Committee of the Board of Directors of Syntel, Inc.
(the "Company") engaged the independent accounting firm of Crowe Chizek and
Company LLC ("Crowe Chizek") as the Company's independent accountants for the
year ended December 31, 2004. Crowe Chizek began providing independent
accountant services to the Company with the third quarter of 2004.
The reports of Ernst & Young LLP ("E&Y") on the Company's consolidated financial
statements for the years ended December 31, 2002 and 2003 did not contain an
adverse opinion or a disclaimer of opinion and were not qualified or modified as
to uncertainty, audit scope, or accounting principles. There were no
disagreements between the Company and E&Y on any matter of accounting principles
or practices, financial statement disclosure, or auditing scope or procedure
during the years ended December 31, 2002 and 2003 and the period through August
9, 2004, which disagreements, if not resolved to the satisfaction of E&Y, would
have caused it to make reference to the subject matter of the disagreements in
connection with its reports on financial statements. During the years ended
December 31, 2002 and 2003 and the period through August 9, 2004, there were no
"reportable events" within the meaning of Item 304(a)(1)(v) of the Securities
and Exchange Commission's Regulation S-K.
50
During the years ended December 31, 2002 and 2003, and the interim period ended
July 21, 2004, the Company did not consult Crowe Chizek regarding the
application of accounting principles to a specific completed or proposed
transaction or regarding the type of audit opinion that might be rendered on
the Company's financial statements, and Crowe Chizek did not provide any
written or oral advice that Crowe Chizek concluded was an important factor
considered by the Company in reaching a decision as to any such accounting,
auditing or financial reporting issue.
ITEM 9A. CONTROLS AND PROCEDURES
DISCLOSURE CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. Based on their evaluation of
the Company's disclosure controls and procedures as of the end of the period
covered by this Report as well as mirror certifications from senior Management,
the Company's Chairman, President and Chief Executive Officer and Chief
Financial Officer have concluded that the Company's disclosure controls and
procedures are designed to ensure that information required to be disclosed by
the Company in the reports that it files or submits under the Securities
Exchange Act of 1934 (the Exchange Act) is recorded, processed, summarized and
reported within the time periods specified in the Securities and Exchange
Commission's rules and forms and are operating in an effective manner. There
have been no changes in the Company's internal controls over financial
reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the last
quarter that materially affected, or are reasonably likely to be materially
affect, the Company's internal control over financial reporting.
DISCLOSURE CONTROLS AND INTERNAL CONTROLS. Disclosure Controls are procedures
designed to ensure that information required to be disclosed in our reports
filed under the Exchange Act, such as this Report, is recorded, processed,
summarized and reported within the time periods specified in the U.S.
Securities and Exchange Commission's (the SEC) rules and forms. Disclosure
Controls are also designed to ensure that such information is accumulated and
communicated to our management, including the CEO and CFO, as appropriate to
allow timely decisions regarding required disclosure. Internal Controls are
procedures designed to provide reasonable assurance that (1) our transactions
are properly authorized; (2) our assets are safeguarded against unauthorized or
improper use; and (3) our transactions are properly recorded and reported, all
to permit the preparation of our financial statements in conformity with
generally accepted accounting principles.
LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS. The Company's management,
including the CEO and CFO, does not expect that our Disclosure Controls or our
Internal Controls will prevent all error and all fraud. A control system, no
matter how well designed and operated, can provide only reasonable, not
absolute, assurance that the control system's objectives will be met. Because of
the inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, within the company have been detected. Further, the design of a control
system must reflect the fact that there are resource constraints, and the
benefits of controls must be considered relative to their costs. The design of
any system of controls is based in part upon certain assumptions about the
likelihood of future events, and there can be no assurance that any design will
succeed in achieving its stated goals under all potential future conditions.
Over time, controls may become inadequate because of changes in conditions or
deterioration in the degree of compliance with its policies or procedures.
51
SCOPE OF THE CONTROLS EVALUATION. In the course of the Controls Evaluation, we
sought to identify data errors, control problems or acts of fraud and confirm
that appropriate corrective actions, including process improvements, were being
undertaken. Our Internal Controls are also evaluated on an ongoing basis by our
Internal Audit Department and by other personnel in our organization. The
overall goals of these various evaluation activities are to monitor our
Disclosure Controls and our Internal Controls, and to modify them as necessary;
our intent is to maintain the Disclosure Controls and the Internal Controls as
dynamic systems that change as conditions warrant.
Among other matters, we sought in our evaluation to determine whether there
were any "significant deficiencies" or "material weaknesses" in the company's
Internal Controls, and whether the company had identified any acts of fraud
involving personnel with a significant role in the company's Internal Controls.
This information was important both for the Controls Evaluation generally, and
because the Rule 13a-14 Certifications of the CEO and CFO require that the CEO
and CFO disclose that information to our Board's Audit Committee and our
independent auditors. We also sought to deal with other controls matters in the
Controls Evaluation, and in each case if a problem was identified, we
considered what revision, improvement and/or correction to make in accordance
with our ongoing procedures.
CONCLUSIONS. Based upon the Controls Evaluation, our CEO and CFO have concluded
that as of December 31, 2004 our disclosure controls and procedures are
effective to ensure that material information relating to Syntel and its
consolidated subsidiaries is made known to management, including the CEO and
CFO, particularly during the period when our periodic reports are being
prepared, and that our Internal Controls are effective to provide reasonable
assurance that our financial statements are fairly presented in conformity with
generally accepted accounting principles.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining adequate
internal control over financial reporting, as such term is defined in Exchange
Act Rules 13a-15(f). Under the supervision and with the participation of our
management, including our chief executive officer and chief financial officer,
we conducted an evaluation of the effectiveness of our internal control over
financial reporting based on the framework in Internal Control -Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Based on our evaluation under the framework in Internal Control --
Integrated Framework, our management concluded that our internal control over
financial reporting was effective as of December 31, 2004 and meets the
criteria of the "Internal Control-Integrated Framework"
Crowe Chizek and Company LLC, an independent registered public accounting firm,
has audited the consolidated financial statements of Syntel, Inc. and its
subsidiaries as of December 31, 2004 and for the year then ended included in
this Annual Report on Form 10-K and, as part of their audit, has issued their
report, included herein, (1) on our management's assessment of the
effectiveness of our internal controls over financial reporting and (2) on the
effectiveness of our internal control over financial reporting.
CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING. From the date of the
Controls Evaluation to the date of this Report, there have been no significant
changes in Internal Controls or in other factors that could significantly
affect Internal Controls.
ITEM 9B. OTHER INFORMATION
None
52
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information set forth in the sections entitled "Election of
Directors" and "Additional information - Compliance with Section 16 (a) of The
Exchange Act" in the Registrant's Proxy Statement for the Annual Shareholders'
Meeting to be held on or about June 2, 2005 (the "Proxy Statement") is
incorporated herein by reference. The information set forth in the section
entitled "Executive Officers of the Registrant" in Item 1 of this report is
incorporated herein by reference.
The Company has adopted a Code of Ethical Conduct applicable to all of
the Company's employees, officers and directors. The Code of Ethical Conduct,
as currently in effect (together with any amendments that may be adopted from
time to time), is posted in the "Investors - Corporate Governance" section of
the Company's website at www.syntelinc.com. Amendments to, and any waiver from,
any provision of the Code of Ethical Conduct that requires disclosure under
applicable SEC rules will be posted on the website at the address specified
above.
ITEM 11. EXECUTIVE COMPENSATION
The information set forth under the sections entitled "Executive
Compensation" and "Election of Directors - Compensation of Directors" in the
Registrant's Proxy Statement is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information set forth under the captions "Equity Compensation Plan
information" in Item 5 of this report is incorporated herein by reference. The
information set forth under the captions "Principal Shareholders" and "Security
Ownership of Management" in the section entitled "Additional Information" in
the Registrant's Proxy Statement is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Not applicable.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Crowe Chizek and Company LLC served as the Company's independent auditors
for the financial statements prepared for the year ended December 31, 2004 and
for the quarter ended September 30, 2004. Ernst & Young LLP served as the
Company's independent auditors for the year ended December 31, 2003, for all
quarters in 2003 and for the quarters ended March 31, 2004 and June 30, 2004.
The following table lists the aggregate fees for professional services rendered
by Crowe Chizek and Company LLC and Ernst & Young LLP for all "Audit Fees,"
"Audit-Related Fees," "Tax Fees," and "All Other Fees" which pertain to the
last two years.
53
FISCAL YEAR ENDED
-----------------------------
DECEMBER 31, DECEMBER 31,
2004 2003
-----------------------------
$ 342,100 $ 239,725
Audit Fees
Audit - Related Fees $ 7,500 $ 25,905
Tax Fees $ 64,667 $ 329,152
All Other Fees $ 14,085 $ 10,207
Audit Fees represent fees for professional services rendered for the
audit of the consolidated financial statements of the Company and assistance
with review of documents filed with the SEC and the audit of management's
assessment of the effectiveness of internal control over financial reporting.
Audit-Related Fees represent professional fees in connection with the statutory
audits services relative to Syntel India and Syntel Germany and the 401K plan
for Syntel Inc. Tax Fees represent fees for the services related to the tax
compliance, tax advice and tax planning. All Other Fees represent consultation
on matters related to transfer pricing, dividend and other advisory services.
AUDIT COMMITTEE AUTHORIZATION OF AUDIT AND NON-AUDIT SERVICES
The Audit Committee has the sole authority to authorize all audit and
non-audit services to be provided by the independent audit firm engaged to
conduct the annual statutory audit of the Company's consolidated financial
statements. In addition, the Audit Committee has adopted pre-approval policies
and procedures that are detailed as to each particular service to be provided
by the independent auditors, and such policies and procedures do not permit the
Audit Committee to delegate its responsibilities under the Securities Exchange
Act of 1934, as amended, to management. The Audit Committee pre-approved fees
for all audit and non-audit services provided by the independent audit firm
during the fiscal year ended December 31, 2004 as required by the
Sarbanes-Oxley Act of 2002.
The Audit Committee has considered whether the provision of the
non-audit services is compatible with maintaining the independent auditor's
independence, and has advised the Company that, in its opinion, the activities
performed by Crowe Chizek and Company LLC on the Company's behalf are
compatible with maintaining the independence of such auditors.
54
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a)(1) The financial statements and supplementary financial
information filed herewith are set forth on the Index to Financial Statements
on page F-1 of the separate financial section which follows page 57 of this
Report, which is incorporated herein by reference.
(a)(2) The consolidated financial statement schedules of the Company
and its subsidiaries have been omitted because they are not required, are not
applicable, or are adequately explained in the financial statements included in
Part II, Item 8 of this report.
(a)(3) The following exhibits are filed as part of this Report. Those
exhibits with an asterisk(*) designate the Registrant's management contracts or
compensation plans or arrangements for its executive officers.
EXHIBIT NO. DESCRIPTION
3.1 Restated Articles of Incorporation of the registrant filed
as an exhibit to the Registrant's Statement on Form S-1
dated June 6, 1997, and incorporated herein by reference.
3.2 Amendment to Articles of Incorporation of the Registrant
dated September 21, 1998 filed as an Exhibit to the
Registrant's Annual Report on Form 10-K for the year ended
December 31, 1998 and incorporated herein by reference.
3.3 Bylaws of the Registrant filed as an Exhibit to the
Registrant's Registration Statement on Form S-1 dated June
6, 1997, and incorporated herein by reference.
10.1 Line of Credit Agreement, dated August 31, 2002, between
the Registrant and Bank One, Michigan filed as an Exhibit
to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 2002, and incorporated herein by
reference.
10.2 Lease, dated October 24, 2001, between Big Beaver / Kilmer
Associates L.L.C. and the Registrant filed as an Exhibit to
the Registrant's Annual Report on Form 10-K for the year
ended December 31, 2002, and incorporated herein by
reference.
10.3 Lease Agreement, dated November 30, 1994, between the
Registrant and NationsBank of North Carolina, NA., as
Trustee for the Public Employees Retirement System of Ohio,
filed as an Exhibit to the Registrant's Registration
Statement on Form S-1 dated June 6, 1997, and incorporated
herein by reference.
10.4 First Amendment, dated October 19, 1998, between the
Registrant and Corning Road, L.L.C. (successor to First
Union National Bank of North Carolina as Trustee, successor
to NationsBank), to the Lease Agreement, dated November 30,
1994, between the Registrant
55
and NationsBank, filed as an Exhibit to the Registrant's
Annual Report on Form 10-K for the year ended December 31,
1998 and incorporated herein by reference.
10.5 Indentures of Lease entered into between the President of
India and Syntel Limited (formerly known as Syntel Software
Pvt. Ltd.) on various dates in 1992 and 1993 for the Mumbai
Global Development Center and filed as an Exhibit to the
Registrant's Registration Statement on Form S-1 dated June
6, 1997, and incorporated herein by reference.
10.6 Rental Agreement, dated February 24, 1997, between Syntel
Limited (formerly known as Syntel Software Pvt. Ltd.) and
the Landlords for the Chennai Global Development Center,
filed as an Exhibit to the Registrant's Registration
Statement on Form S-1 dated June 6, 1997, and incorporated
herein by reference.
10.7* 1997 Stock Option and Incentive Plan, (Amended and
Restated) filed as an Exhibit to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 2001,
and incorporated herein by reference.
10.8* Employee Stock Purchase Plan, filed as an Exhibit to the
Registrant's Registration Statement on Form S-1 dated June
6, 1997, and incorporated herein by reference.
10.9 Amendment to Credit Agreement dated August 25, 2003,
between the Registrant and Bank One, NA filed as an Exhibit
to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 2003, and incorporated herein by
reference.
10.10 Amendment to Credit Agreement dated August 19, 2004,
between the Registrant and Bank One, NA.
10.11 Leave and License Agreement, dated June 11, 2004, between
Lake View Developers and Syntel Sourcing Pvt. Ltd.
10.12 Lease Deeds, dated September 23, 2004 between Arihant
Foundation and Housing Ltd. and Syntel Limited.
10.13 Lease Deed, dated October 6, 2004, between Arihant
Foundation and Housing Ltd. and Syntel Limited.
14 Code of Ethical Conduct.
21 SUBSIDIARIES OF THE REGISTRANT.
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer
32 Section 1350 Certification of Chief Executive Officer and
Chief Financial Officer
99.1 Proxy Statement for the Registrant's 2002 Annual Meeting of
Shareholders, filed by the Registrant pursuant to
Regulation 14A and incorporated herein by reference.
56
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.
SYNTEL, INC.
By: /S/Bharat Desai
-------------------------------
Bharat Desai, Chairman,
Dated: March 14, 2005 President and Chief Executive Officer
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/ Bharat Desai Chairman, President and Chief
- --------------------------- Executive Officer March 14, 2005
Bharat Desai (Principal Executive Officer)
/S/ Keshav Murugesh Chief Operating Officer and March 14, 2005
- --------------------------- Chief Financial Officer
Keshav Murugesh (Principal Financial and
Accounting Officer)
/S/ Neerja Sethi Director and Vice President, March 14, 2005
- --------------------------- Corporate Affairs
Neerja Sethi
/S/ Paritosh K. Choksi Director March 14, 2005
- ---------------------------
Paritosh K. Choksi
/S/ Douglas Van Houweling Director March 14, 2005
- ---------------------------
Douglas Van Houweling
/S/ George R. Mrkonic Director March 14, 2005
- ---------------------------
George R. Mrkonic
/S/ Vasant Raval Director March 14, 2005
- ---------------------------
Vasant Raval
57
CONTENTS
PAGE(S)
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Report of Independent Registered Public Accounting Firm as of December 31, 2004 and for the year
then ended.......................................................................................................59
Report of Independent Registered Public Accounting Firm as of December 31, 2003, and for each of
the two years in the period ended December 31, 2003..............................................................62
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets......................................................................................63
Consolidated Statements of Income................................................................................64
Consolidated Statements of Shareholders' Equity..................................................................65
Consolidated Statements of Cash Flows............................................................................66
Notes to Consolidated Financial Statements....................................................................67-89
58
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Syntel, Inc.
Troy, Michigan
We have audited the accompanying consolidated balance sheet of Syntel, Inc. and
its subsidiaries as of December 31, 2004 and the related consolidated
statements of income, shareholders' equity and cash flows for the year ended
December 31, 2004. 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 audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (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
audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Syntel, Inc. and
its subsidiaries as of December 31, 2004, and the results of their operations
and their cash flows for the year ended December 31, 2004 in conformity with
U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company
Oversight Board (United States), the effectiveness of Syntel, Inc.'s internal
control over financial reporting as of December 31, 2004, based on criteria
established in Internal Control -- Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission and our report dated
March 3, 2005 expressed an unqualified opinion thereon.
Fort Wayne, Indiana /s/ Crowe Chizek and Company LLC
March 3, 2005
59
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Syntel, Inc.
Troy, Michigan
We have audited management's assessment, included within item 9A as Management's
Report on Internal Control Over Financial Reporting, that Syntel, Inc.
maintained effective internal control over financial reporting as of December
31, 2004, based on criteria established in Internal Control - Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). Syntel, Inc's. management is responsible for maintaining
effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting. Our
responsibility is to express an opinion on management's assessment and an
opinion on the effectiveness of the company's internal control over financial
reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinion.
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control
over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management
and directors of the company; (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition
of the company's assets that could have a material effect on the financial
statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
In our opinion, management's assessment that Syntel, Inc. maintained effective
internal control over financial reporting as of December 31, 2004, is fairly
stated, in all material respects, based on criteria established in Internal
Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Also in our opinion, Syntel,
Inc. maintained, in all material respects, effective internal control over
60
financial reporting as of December 31, 2004, based on criteria established in
Internal Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO).
We have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the consolidated balance sheet of
Syntel, Inc. as of December 31, 2004, and the related consolidated statements
of income, shareholders' equity, and cash flows for the year ended December 31,
2004, and our report dated March 3, 2005 expressed an unqualified opinion
on those consolidated financial statements.
Fort Wayne, Indiana /s/ Crowe Chizek and Company LLC
March 3, 2005
61
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of
Syntel, Inc.
We have audited the accompanying consolidated balance sheet of Syntel, Inc. and
Subsidiaries (the "Company") as of December 31, 2003, and the related
consolidated statements of income, shareholders' equity and cash flows for each
of the two years in the period ended December 31, 2003. 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 the standards of the Public Company
Accounting Oversight Board (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
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of the Company's
internal control over financial reporting. Accordingly, we express no such
opinion. An audit also includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
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 consolidated financial position of Syntel, Inc. as
of December 31, 2003, and the consolidated results of their operations and
their cash flows for each of the two years in the period ended December 31,
2003 in conformity with U.S. generally accepted accounting principles.
Detroit, Michigan /s/ Ernst & Young LLP
February 20, 2004
62
SYNTEL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
- ----------------------------------------------------------------------------------------------------------------------------------
DECEMBER 31, DECEMBER 31,
ASSETS 2004 2003
-------------------- ----------------------
Current assets:
Cash and cash equivalents $ 109,142 $ 102,854
Short term investments 58,899 33,982
Accounts receivable, net of allowance for doubtful accounts of $1,213 and
$809 at December 31, 2004 and December 31, 2003,
respectively 28,790 25,197
Revenue earned in excess of billings 4,390 6,324
Deferred income taxes and other current assets 5,891 5,642
--------------------- ----------------------
Total current assets 207,112 173,999
Property and equipment 37,754 25,617
Less accumulated depreciation 21,290 18,502
--------------------- ----------------------
Property and equipment, net 16,464 7,115
Goodwill 906 906
Deferred income taxes and other non current assets 2,486 3,178
-------------------- ----------------------
TOTAL ASSETS $ 226,968 $ 185,198
==================== =======================
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Current liabilities:
Accounts payable $ 2,394 $ 1,056
Accrued payroll and related costs 13,963 11,851
Income taxes payable 6,290 6,507
Accrued liabilities 6,015 5,798
Deferred revenue 5,231 4,179
Dividends payable 2,433 2,401
-------------------- ----------------------
Total current liabilities 36,326 31,792
SHAREHOLDERS' EQUITY
Common Stock, no par value per share, 100,000,000 shares authorized;
40,256,825 and 40,016,194 shares issued and outstanding at
December 31, 2004 and December 31, 2003, respectively 1 1
Additional paid-in capital 57,185 54,038
296,900 and nil restricted stock issued and outstanding at
December 31, 2004 and December 31, 2003, respectively 828 -
Accumulated other comprehensive income 3,466 1,519
Retained earnings 129,162 97,848
-------------------- ----------------------
Total shareholders' equity 190,642 153,406
-------------------- ----------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 226,968 $ 185,198
==================== ======================
The accompanying notes are an integral part of the consolidated
financial statements.
63
SYNTEL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
- -------------------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,
2004 2003 2002
--------------------------------------------------
Net revenues $ 186,573 $ 179,507 $ 161,507
Cost of revenues 107,120 101,699 94,010
--------------------------------------------------
Gross profit 79,453 77,808 67,497
Selling, general and administrative expenses 36,999 28,278 31,421
Reduction in reserve requirements applicable to Metier
transaction - (882) (5,698)
--------------------------------------------------
Income from operations 42,454 50,412 41,774
Other income, principally interest 3,773 3,168 3,191
--------------------------------------------------
Income before income taxes 46,227 53,580 44,965
Provision for income taxes 5,253 13,242 12,338
--------------------------------------------------
40,974 40,338 32,627
Income before loss from equity investments
Loss from equity investment - 34 141
--------------------------------------------------
Net Income $ 40,974 $ 40,304 $ 32,486
==================================================
DIVIDENDS PER SHARE $ 0.24 $ 1.37 $ -
EARNINGS PER SHARE:
Basic $ 1.02 $ 1.02 $ 0.84
Diluted $ 1.01 $ 0.99 $ 0.81
Weighted average common shares outstanding:
Basic 40,216 39,609 38,733
Diluted 40,469 40,797 39,917
The accompanying notes are an integral part of the consolidated
financial statements.
64
SYNTEL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT PER SHARE DATA)
- -----------------------------------------------------------------------------------------------------------------------------------
ADDITIONAL
COMMON STOCK RESTRICTED STOCK 1 PAID-IN ACCUMULATED OTHER TOTAL
------------ ---------------- RETAINED COMPREHENSIVE SHAREHOLDERS'
SHARES AMOUNT SHARES AMOUNT CAPITAL EARNINGS INCOME (LOSS) EQUITY
------ ------ ------ ------ ------- -------- ------------- ------
FOREIGN
CURRENCY
UNREALIZED TRANSLATION
GAIN ADJUSTMENT
BALANCE, JANUARY 1, 2002 38,389 $1 - $ - $ 34,145 $ 79,689 $ 33 $(1,610) $ 112,258
Net income 32,486 32,486
Unrealized gain on investments, net of
tax 644 644
Translation adjustments 417 417
---------------------------------------
Total comprehensive income 32,486 644 417 33,547
---------------------------------------
Common stock repurchases (250) (3,361) (3,361)
Employee stock purchase plan 76 523 523
Exercised stock options 853 6,093 6,093
Tax benefit on stock options exercised 2,881 2,881
Stock warrants sales incentive 4,407 4,407
Deferred stock warrant sales incentive (1,504) (1,504)
---------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2002 39,068 1 - - 43,184 112,175 677 (1,193) 154,844
---------------------------------------------------------------------------------------
Net income 40,304 40,304
Unrealized gain on investments, net of
tax 136 136
Translation adjustments 1,899 1,899
-------------------------------------
Total comprehensive income 40,304 136 1,899 42,339
-------------------------------------
Common stock repurchases (10) (160) (160)
Employee stock purchase plan 61 696 696
Exercised stock options 687 5,842 5,842
Tax benefit on stock options exercised 2,699 2,699
Warrants issued as sales incentive
converted into common stock 210 1,777 1,777
Dividends, $1.37 per share (54,661) (54,661)
Other 30 30
---------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2003 40,016 1 - - 54,038 97,848 813 706 153,406
---------------------------------------------------------------------------------------
Net income 40,974 40,974
Unrealized gain / (loss) on investments,
net of tax (267) (267)
Translation adjustments 2,214 2,214
-------------------------------------
Total comprehensive income 40,974 (267) 2,214 42,921
-------------------------------------
Common stock repurchases (100) (1,479) (1,479)
Employee stock purchase plan 73 1,021 1,021
Exercised stock options 265 2,118 2,118
Tax benefit on stock options exercised 1,410 1,410
Restricted Stock 319 5,838 5,838
Forfeiture of restricted stock (22) (410) (410)
Unearned compensation related to
restricted stock (4,600) (4,600)
Warrants issued as sales incentive
converted into common stock 3 77 77
Dividends, $0.24 per share (9,660) (9,660)
---------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2004 40,257 $ 1 297 $ 828 $57,185 $ 129,162 $546 $ 2,920 $ 190,642
---------------------------------------------------------------------------------------
The accompanying notes are an integral part of the consolidated
financial statements.
65
SYNTEL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
2004 2003 2002
------------ ----------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 40,974 $40,304 $ 32,486
Adjustments to reconcile net income to net cash provided by operating
activities
Depreciation and amortization 3,024 2,522 2,176
Bad debt provisions / (credits) 400 (493) 518
Reduction in reserve requirements applicable to the Metier transaction - (882) (5,698)
Realized gains on sales of short term investments (2,049) (1,015) (727)
Deferred income taxes 1,101 3,940 (345)
Stock warrants sales incentive 77 1,777 2,903
Compensation expense related to restricted stock 884 - -
Loss on equity investments - 34 141
Changes in assets and liabilities:
Accounts receivable and revenue earned in excess of billing, net (469) (5,836) 4,748
Other current assets (300) 232 (406)
Accrued payroll and other liabilities 4,046 4,411 (2,933)
Deferred revenues 783 (851) (165)
------------ ----------- --------------
Net cash provided by operating activities 48,471 44,143 32,698
------------ ----------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Property and equipment expenditures (12,017) (4,226) (2,078)
Equity and other investments - 223 -
Purchase of short term investments:
Investments in mutual funds (72,825) (52,313) (15,228)
Investments in term deposits with banks (21,516) - (4,614)
Proceeds from sales of short term investments:
Proceeds from sales of mutual funds 65,866 33,924 28,084
Maturities of term deposits with banks 7,394 2,162 2,568
------------ ----------- --------------
Net cash (used in) / provided by investing activities (33,098) (20,230) 8,732
------------ ----------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of common stock 3,140 6,538 6,616
Common stock repurchases (1,479) (160) (3,361)
Dividends paid (9,685) (52,260) -
------------ ----------- --------------
Net cash (used in) / provided by financing activities (8,024) (45,882) 3,255
------------ ----------- --------------
Effect of foreign currency exchange rate changes on cash (1,061) (170) 235
------------ ----------- --------------
Net increase/(decrease) in cash and cash equivalents 6,288 (22,140) 44,920
Cash and cash equivalents, beginning of year 102,854 124,994 80,074
------------ ----------- --------------
Cash and cash equivalents, end of year $109,142 $102,854 $124,994
============ =========== ==============
Non cash investing and financing activities:
Cash dividends declared but unpaid $2,433 $2,401 -
Stock warrants 77 - -
Cash paid for income taxes 5,543 5,582 10,100
The accompanying notes are an integral part of the consolidated
financial statements.
66
SYNTEL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS
Syntel, Inc. and Subsidiaries (the "Company") provide information technology
services such as programming, systems integration, outsourcing and overall
project management. The Company provides services to customers primarily in the
financial, manufacturing, healthcare, transportation, retail, and
information/communication industries, as well as to government entities. The
Company's reportable operating segments consist of Applications Outsourcing,
e-Business, TeamSourcing and Business Process Outsourcing (BPO).
Through Applications Outsourcing, the Company provides higher-value outsourcing
services for ongoing management, development and maintenance of customers'
business applications. In most Application Outsourcing engagements, the Company
assumes responsibility for the management of customer development and support
functions. These services may be provided on either a time-and-material basis
or on a fixed price basis.
Through e-Business, the Company provides development and implementation
services for a number of emerging and rapidly growing high technology
applications, including Web development, Data Warehousing, e-commerce, CRM and
Oracle, as well as partnership arrangements with leading software firms, to
provide installation services to their respective customers. These services may
be provided on either a time-and-material basis or on a fixed price basis, in
which the Company assumes responsibility for management of the engagement.
Through TeamSourcing, the Company provides professional information technology
consulting services directly to customers on a staff augmentation basis.
TeamSourcing services include systems specification, design, development,
implementation and maintenance of complex information technology applications
involving diverse computer hardware, software, data and networking technologies
and practices. TeamSourcing consultants, whether working individually or as a
team of professionals, generally receive direct supervision from the customer's
management staff. TeamSourcing services are generally invoiced on a time and
material basis.
Through BPO, Syntel provides outsourced solutions for a client's business
processes, providing them with the advantage of a low cost position and process
enhancement through optimal use of technology. Syntel uses a proprietary tool
called IdenteonTM to assist with strategic assessments of business processes
and identifying the right ones for outsourcing.
2. SUMMARY OF CERTAIN SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Syntel, Inc.
("Syntel"), a Michigan corporation, its wholly owned subsidiaries, and a joint
venture. All significant inter-company balances and transactions have been
eliminated.
The wholly owned subsidiaries of Syntel, Inc. are:
o Syntel Limited ("Syntel India"), an Indian limited liability
company formerly known as Syntel (India) Ltd.;
o Syntel Singapore PTE., Ltd. ("Syntel Singapore"), a Singapore
limited liability company;
67
o Syntel Europe, Ltd. ("Syntel U.K."), a United Kingdom limited
liability company;
o Syntel Canada Inc. ("Syntel Canada"), an Ontario limited
liability company;
o Syntel Deutschland GmbH ("Syntel Germany"), a German limited
liability company;
o Syntel Hong Kong Ltd. ("Syntel Hong Kong"), a Hong Kong limited
liability company;
o Syntel (Australia) Pty. Limited ("Syntel Australia"), an
Australian limited liability company;
o Syntel Delaware LLC ("Syntel Delaware"), a Delaware limited
liability company;
o SkillBay LLC ("SkillBay"), a Michigan limited liability company;
o Syntel (Mauritius) Limited ("Syntel Mauritius"), a Mauritius
limited liability company; and
o Syntel Consulting Inc ("Syntel Consulting"), a Michigan limited
liability company.
The formerly wholly owned subsidiary of Syntel Delaware LLC (as of December 31,
2004) that became a partially owned joint venture of Syntel Delaware LLC on
February 1, 2005 is: o Syntel Solutions (Mauritius) Ltd. ("Syntel Solutions"),
a Mauritius limited liability company.
The wholly owned subsidiary of Syntel Solutions is:
o Syntel Sourcing Pvt. Ltd. ("Syntel Sourcing"), an Indian limited
liability company.
The wholly owned subsidiaries of Syntel Mauritius are:
o Syntel International Pvt. Ltd. ("Syntel International"), an
Indian limited liability company; and
o Syntel Global Pvt. Ltd. ("Syntel Global"), an Indian limited
liability company.
REVENUE RECOGNITION
The Company recognizes revenues from time and material contracts as the
services are performed.
Revenue from fixed-price applications management, maintenance and support
engagements is recognized as earned which generally results in straight-line
revenue recognition as services are performed continuously over the term of the
engagement.
Revenue on fixed-price, applications development and integration projects in the
Company's application outsourcing and e-Business segments are measured using the
proportional performance method of accounting. Performance is generally measured
based upon the efforts incurred to date in relation to the total estimated
efforts to the completion of the contract. The Company monitors estimates of
total contract revenues and cost on a routine basis throughout the delivery
period. The cumulative impact of any change in estimates of the contract
revenues or costs is reflected in the period in which the changes become known.
In the event that a loss is anticipated on a particular contract, provision is
made for the estimated loss. The Company issues invoices related to fixed price
contracts based on either the achievement of milestones during a project or
other contractual terms. Differences between the timing of billings and the
recognition of revenue based upon the proportional performance method of
accounting are recorded as revenue earned in excess of billings or deferred
revenue in the accompanying
68
consolidated balance sheets.
Revenues are reported net of sales incentives.
Reimbursements of out-of-pocket expenses are included in revenue in accordance
with Emerging Issues Task Force Consensus ("EITF") 01-14, "Income Statement
Characterization of Reimbursement Received for `Out of Pocket' Expenses
Incurred".
CASH AND CASH EQUIVALENTS
For the purpose of reporting Cash and Cash Equivalents, the Company considers
all liquid investments purchased with an original maturity of three months or
less to be cash equivalents. At December 31, 2004 and 2003, approximately $29.1
million and $29.1 million respectively, represent corporate bonds and treasury
notes held by Bank One, for which "AAA" rated letters of credit have been
provided by the bank. The remaining amounts of cash and cash equivalents are
invested in money market accounts with various banking and financial
institutions.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair values of the Company's current assets and current liabilities
approximate their carrying values because of their short maturities. Such
financial instruments are classified as current and are expected to be
liquidated within the next twelve months.
CONCENTRATION OF CREDIT RISKS
Financial instruments that potentially subject the Company to a concentration
of credit risk consist principally of investments and accounts receivable. Cash
on deposit is held with financial institutions with high credit standings. The
Company has cash deposited with financial institutions which, at times, may
exceed the limits federally insured limits.
Our customer base consists primarily of Global 2000 companies and accordingly
our accounts receivable is not exposed to significant credit risk. The Company
establishes an allowance for doubtful accounts as a provision for known and
inherent collection risks related to its accounts receivable. The estimation of
the provision is primarily based on our assessment of the probable collection
from specific customer accounts, the aging of the accounts receivable, analysis
of credit data, bad debt write-offs, and other known factors.
SHORT TERM INVESTMENTS
The Company's short-term investments consist of short-term mutual funds, which
have been classified as available-for-sale and are carried at estimated fair
value. Fair value is determined based on quoted market prices. Unrealized gains
and losses, net of taxes, on available-for-sale securities are reported as a
separate component of accumulated other comprehensive income (loss) in
shareholders' equity. Net realized gains or losses resulting from the sale of
these investments, and losses resulting from decline in fair values of these
investments that are other than temporary declines, are included in other
income. The cost of securities sold is determined on the weighted average
method.
Investments include Term deposits with original maturity exceeding three months
and whose maturity date is within one year from the date of the balance sheet.
69
LONG-LIVED ASSETS (OTHER THAN GOODWILL)
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets", the
Company reviews its long-lived assets (other than goodwill) for impairment
whenever events or changes in circumstances indicate that the carrying amount
of an asset may not be recoverable. When factors indicate that such costs
should be evaluated for possible impairment, we assess the recoverability of
the long-lived assets (other than goodwill) by comparing the estimated
undiscounted cash flows associated with the related asset or group of assets
against their respective carrying amounts. The amount of an impairment charge
if any, is calculated based on the excess of the carrying amount over the fair
value of those assets. Management believes no assets were impaired at December
31, 2004.
OTHER INCOME
Other income includes interest and dividend income, gains and losses from sale
of securities and other investments.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Maintenance and repairs are charged
to expense when incurred. Depreciation is computed primarily using the
straight-line method over the estimated useful lives as follows:
YEARS
Computer equipment and software 3
Furniture, fixtures and other equipment 7
Vehicles 3
Leasehold improvements Life of lease
Leasehold land Life of lease
Depreciation expense for the years ended December 31, 2004, 2003 and 2002 was
$3.1 million, $2.5 million and $ 2.2 million, respectively.
GOODWILL
Effective January 1, 2002 the Company adopted SFAS No. 142 "Goodwill and Other
Intangible Assets". In accordance with SFAS No. 142, goodwill is no longer
amortized but is evaluated for impairment at least annually.
USE OF ESTIMATES
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 reported 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 periods. Such estimates include, but are not limited to
allowance for doubtful accounts, impairment of goodwill, contingencies and
litigation, the recognition of revenues and profits based on the proportional
performance method and potential tax liabilities. Actual results could differ
from those estimates and assumptions used in the preparation of the
accompanying financial statements.
During 2004, the Company provided $0.4 million towards allowance for doubtful
accounts. At December 31, 2004 and 2003, the allowance for doubtful accounts
was $1.2 million and $0.8 million respectively. These estimates are based on
our assessment of the probable collection from specific customer accounts, the
70
aging of the accounts receivable, analysis of credit data, bad debt write-offs,
and other known factors.
During 2004, the Company has reversed $1.7 million of the tax provision related
to the year 2000 and credited it to the current period's income tax expenses.
In determining the tax provisions, the Company also provides for tax
contingencies based on the Company's assessment of future regulatory reviews of
filed tax returns. Such reserves, which are recorded in income taxes payable,
are based on management's estimates and accordingly are subject to revision
based on additional information. The provision no longer required for any
particular tax year, is credited to the current period's income tax expenses.
In addition, during 2004 Syntel India has accounted for a credit of
approximately $0.5 million in respect of US branch profit taxes related to
prior periods up to June 30, 2004.
The revision in estimates noted above had an after tax impact of increasing the
diluted earnings per share for the year ended December 31, 2004 by $0.05 per
share.
During 2003, in connection with settlements and other changes in estimates for
underlying litigation and related legal costs, the Company reduced its accrued
liabilities and Metier related liabilities by $2.9 million, net of amounts
paid. The Company also reduced its allowance for doubtful accounts by $0.5
million primarily on account of the successful collection of overdue debts.
Also, in 2003 management revised its estimate of 2002 bonus compensation and
reversed $0.8 million of previously recorded accruals. The revision in
estimates noted above had an after tax impact of increasing the diluted
earnings per share for the year ended December 31, 2003 by $0.06 per share.
FOREIGN CURRENCY TRANSLATION
The financial statements of the Company's foreign subsidiaries use the currency
of the primary economic environment in which they operate as its functional
currency. Revenues, costs and expenses of the foreign subsidiaries are
translated to U. S. dollars at average period exchange rates. Assets and
liabilities are translated to U. S. dollars at period-end exchange rates with
the effects of these cumulative translation adjustments being reported as a
separate component of accumulated other comprehensive income in shareholders'
equity. Transaction gains and losses, which were not significant in the years
presented are reflected within `Selling, general and administrative expenses'
in the consolidated statements of income.
EARNINGS PER SHARE
Basic and diluted earnings per share are computed in accordance with SFAS No.
128 "Earnings per share".
Basic earnings per share is calculated by dividing net income by the weighted
average number of shares outstanding during the applicable period.
The Company has stock options, which are considered to be potentially dilutive
to the basic earnings per share. Diluted earnings per share is calculated using
the treasury stock method for the dilutive effect of shares which have been
granted pursuant to the stock option plan, by dividing the net income by the
weighted average number of shares outstanding during the period adjusted for
these potentially dilutive options, except when the results would be
anti-dilutive. The potential tax benefits on exercise of stock options is
considered as additional proceeds while computing dilutive earnings per share
using the treasury stock method.
71
EMPLOYEE BENEFITS
The Company maintains a 401(k) retirement plan that covers all regular
employees on Syntel's U.S. payroll. Eligible employees may contribute up to 15%
of their compensation, subject to certain limitations, to the retirement plans.
The Company may make contributions to the plans at the discretion of our Board
of Directors; however, through December 31, 2004, no contributions have been
made.
Eligible employees of the Company receive benefits under the Provident Fund
("PF"), which is a defined contribution plan. Both the employee and the Company
make monthly contributions equal to a specified percentage of the covered
employee's salary. The Company has no further obligations under the plan beyond
its monthly contributions. These contributions are made to the fund
administered and managed by the Government of India. The Company's monthly
contributions are charged to income in the period they are incurred.
In accordance with the Payment of Gratuity Act, 1972 of India, the Indian
subsidiary provides for gratuity, a defined retirement benefit plan (the
"Gratuity Plan") covering eligible employees. The Gratuity Plan provides a lump
sum payment to vested employees at retirement, death, incapacitation or
termination of employment, based on the respective employee's salary and the
tenure of employment. Liabilities with regard to the Gratuity Plan are
determined by actuarial valuation and are charged to income in the period
determined. The Gratuity Plan is a non-funded plan. The amounts accrued under
this plan are $0.7 million and $0.7 million as of December 31, 2004 and 2003,
respectively, and are included within `Accrued payroll and related costs'.
VACATION PAY
The accrual for vacation pay is determined for the entire available leave
balance standing to the credit of the employees at year-end and eligible for
carry-forward, valued at gross compensation rates.
STOCK BASED COMPENSATION
As permitted by SFAS No. 123, the Company has elected to measure stock based
compensation cost using the intrinsic value method, in accordance with APB
Opinion No. 25, "Accounting for Stock Issued to Employees" and has adopted the
disclosure requirements of SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure, an amendment of FASB Statement No.
123". Had the fair value of each stock option granted been determined
consistent with the methodology of SFAS No. 123, "Accounting for Stock Based
Compensation", the pro forma impact on the Company's net income and earnings
per share is as follows:
72
YEAR ENDED DECEMBER 31
Pro forma net income 2004 2003 2002
----------------------------------------------------
(In thousands, except per share data)
Net income as reported $ 40,974 $ 40,304 $ 32,486
Stock based compensation expenses
recognized in statement of income, net
of tax 713 - -
Stock based compensation expense
determined under the fair value method,
net of tax (1,642) (1,216) (1,787)
---------------- --------------- ----------------
Pro forma net income $ 40,045 $ 39,088 $ 30,699
================ =============== ================
Earnings per share as reported
Basic $ 1.02 $ 1.02 $ 0.84
Diluted 1.01 0.99 0.81
Earnings per share, pro forma
Basic $ 1.00 $ 0.99 $ 0.79
Diluted 0.99 0.96 0.77
Weighted average common shares outstanding
Basic 40,216 39,609 38,733
Diluted 40,469 40,797 39,917
Estimated fair value of options granted $ 5.78 $ 5.61 $ 5.86
Under SFAS No. 123, the fair value of each option grant is estimated on the
date of grant using the Black-Scholes option-pricing model with the
following assumptions for grants:
2004 2003 2002
-----------------------------------------------------
Risk free interest rate 3.72% 3.35% 3.25%
Expected life 5.00 5.00 5.00
Expected volatility 71.94% 75.80% 79.16%
Expected dividend yield 1.37% 0.97% 0.00%
INCOME TAXES
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which the temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax laws is recognized in income in the
period that includes the enactment date.
RECLASSIFICATIONS
Certain amounts in the 2003 and 2002 consolidated financial statements have
73
been reclassified to conform to the current year's presentation.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2004, SFAS 123 No.(R) was issued, which replaces SFAS 123,
"Accounting for Stock-Based Compensation", and supersedes APB Opinion No. 25,
"Accounting for Stock Issued to Employees." SFAS No. 123(R) requires
compensation costs relating to share-based payment transactions be recognized
in financial statements. The pro forma disclosure previously permitted under
SFAS No. 123 will no longer be an acceptable alternative to recognition of
expenses in the financial statements. SFAS No. 123(R) is effective as of the
beginning of the first reporting period that begins after June 15, 2005, with
early adoption encouraged. The Company currently measures compensation costs
related to share-based payments under APB Opinion No. 25, as allowed by SFAS
No. 123, and provides disclosure in notes to financial statements as required by
SFAS No. 123. The Company is required to adopt SFAS No. 123(R) starting from
the third quarter of 2005. We expect the adoption of SFAS No. 123(R) will have
a material adverse impact on our net income and net income per share. The
Company is currently in the process of evaluating the extent of such impact.
In December 2004, SFAS No. 153, "Exchanges of Non-monetary Assets--an amendment
to APB Opinion No. 29" was issued. This statement amends APB Opinion No. 29 to
eliminate the exception for non-monetary exchanges of similar productive assets
and replaces it with a general exception for exchanges of non-monetary assets
that do not have commercial substance. A non-monetary exchange has commercial
substance if the future cash flows of the entity are expected to change
significantly as a result of the exchange. Adoption of this statement is not
expected to have a material impact on our results of operations or financial
condition.
In December 2004, FASB Staff Position No. FAS 109-2, "Accounting and Disclosure
Guidance for the Foreign Earnings Repatriation Provision within the American
Jobs Creation Act of 2004" ("FSP FAS 109-2") was issued, providing guidance
under SFAS No. 109, "Accounting for Income Taxes" for recording the potential
impact of the repatriation provisions of the American Jobs Creation Act of
2004, enacted on October 22, 2004. FSP FAS 109-2 allows time beyond the
financial reporting period of enactment to evaluate the effects of the Jobs Act
before applying the requirements of FSP FAS 109-2. Accordingly, we are
evaluating the potential effects of the Jobs Act and have not adjusted our tax
expense or deferred tax liability to reflect the requirements of FSP FAS 109-2.
3. ACQUISITIONS
METIER, INC.
During 1999, the Company acquired substantially all the business and assets of
Metier, Inc. The consideration for the Metier acquisition in 1999 included a
$1.6 million dollar payment to the Metier shareholders, which was to be made in
April 2000, and 300,000 shares of Syntel Common Stock, which were to be issued
in September 2000. During 2000, the Company entered into litigation with the
former shareholders of Metier and consequently, the $1.6 million dollar payment
was not made and the 300,000 shares were not issued. In April 2002, the Company
reached a resolution with the Metier shareholders wherein the $1.6 million
dollar payment was not made, the 300,000 shares were not issued and the Company
paid $2.3 million in settlement and legal costs. Additionally, during the last
quarter of 2002, the Company also settled certain of the Metier related and
other litigation and in connection with these settlements, the Company reversed
an accrual of approximately $5.7 million of the accrued Metier liability during
2002 having an earnings per share impact of $0.08 per share. The final
settlements relating to the Metier
74
liability were made during the third quarter of 2003 and accordingly, the
remaining accrual of approximately $0.9 million was also reversed.
IMG, INC.
During 1999, the Company acquired the business and assets of IMG, Inc. This
acquisition resulted in goodwill of $1.1 million that has been allocated to the
e-Business reporting unit. In accordance with the provisions of SFAS No. 142
the Company evaluates the carrying value of goodwill as of June 30 every year.
The Company has determined that the goodwill has not been impaired and
consequently no impairment has been recorded during the years 2004 or 2003.
4. SHORT TERM INVESTMENTS
Short term investments included the following at December 31, 2004 and
2003:
2004 2003
---- ----
(in thousands)
Investments in marketable securities at
carrying value $ 36,106 $ 26,137
Term deposits with banks $ 22,793 7,845
----------------- ----------------
Total Short-term Investments $ 58,899 $ 33,982
================= ================
a) Investment in marketable securities (primarily Indian Mutual Funds)
included the following at December 31, 2004, 2003 and 2002:
2004 2003 2002
---- ---- ----
(in thousands)
Cost $ 35,456 $ 25,220
Unrealized gain, net 650 917
----------------- ---------------- -----------------
Carrying value $ 36,106 $ 26,137
================= ================ =================
Gross realized gains $ 2,049 $ 1,015 $ 734
Gross realized losses - - (7)
Dividend income - - 84
Proceeds on sale of securities 65,866 33,924 28,084
Purchase of securities 72,825 52,313 15,228
b) Investment in term deposits with banks included the following at
December 31, 2004 and 2003:
2004 2003
---- ----
(in thousands)
Cost $ 22,793 $ 7,845
================= ================
Maturities of term deposits 7,394 2,162
Purchase of term deposits $ 21,516 $ -
75
5. STOCK WARRANTS SALES INCENTIVE
During 2002, the Company granted to a significant customer immediately
exercisable warrants entitling the customer to purchase 322,210 shares of
the Company's stock at an exercise price of $7.25 per share. The stated
exercise price was based upon the customer achieving a specified minimum
level of purchases of services (the "Performance Milestone") from the
Company over a specified performance period ended on October 16, 2003. The
customer exercised the warrant in February 2003 and received 209,739
shares in a cashless exercise.
The customer earned the sales incentive as they met the performance
milestone over the specified performance period ended on October 16, 2003.
In accordance with EITF 01-09, "Accounting for Consideration Given by a
Vendor to a Customer or a Reseller of the Vendor's Products", the Company
has recorded the value of sales incentive as a reduction of revenues, to
the extent of revenues earned up to October 16, 2003.
The measurement of the sales incentive, which previously was based on the
market value of the Company's stock at each period end, was finalized
based on sale of the shares in quarter ended September 30, 2003 by the
customer at an average sale price of $22.31. Accordingly, the final value
of the sales incentive was $4.7 million. Cumulatively, the Company had
recorded $2.9 million of the sales incentive as a reduction of revenue up
to December 31, 2002. The remaining sales incentive of $1.8 million was
recorded during the year 2003.
The Company has also granted the same customer certain additional
performance warrants at significantly higher performance milestones. The
Company has estimated that such higher performance milestones will not be
met. Accordingly, the Company has not accounted for these performance
warrants. If and when the Company estimates that such higher performance
milestones will be met, the sales incentive associated with the
performance warrants will be recorded as a reduction of revenue.
6. REVENUE EARNED IN EXCESS OF BILLINGS AND DEFERRED REVENUE
Revenue earned in excess of billings consists of:
2004 2003
-------------------------
(In thousands)
Unbilled revenue for time and material projects $2,144 $2,427
Unbilled revenue for fixed price projects 2,246 3,897
-------------------------
$4,390 $6,324
=========================
Deferred revenue consists of:
2004 2003
-------------------------
(In thousands)
Deferred revenue on uncompleted fixed price development
contracts $4,123 $3,801
Advance billing on application management & support
contracts 1,025 378
Other deferred revenue 83 -
-------------------------
$5,231 $4,179
=========================
76
7. PROPERTY AND EQUIPMENT
Property and equipment at December 31, 2004 and 2003 is summarized as
follows:
2004 2003
--------------------------
(IN THOUSANDS)
Computer equipment and software $17,651 $14,657
Furniture, fixtures & other equipment 9,966 7,590
Vehicles 1,032 587
Leasehold improvements 1,499 1,244
Leasehold land 1,856 1,282
Capital advances / work in progress 5,750 257
-------------- -----------
37,754 25,617
Accumulated depreciation and amortization 21,290 18,502
-------------- -----------
$16,464 $7,115
============== ===========
8. LINE OF CREDIT
The Company has a line of credit with Bank One, which provides for borrowings
up to $20.0 million. The line of credit has been renewed and now expires on
August 31, 2005. The line of credit contains covenants restricting the Company
from, among other things, incurring additional debt, issuing guarantees and
creating liens on the Company's property, without the prior consent of the
bank. The line of credit also requires the Company to maintain certain tangible
net worth levels and leverage ratios. The line of credit has a sub-limit of
$5.0 million for letters of credit, which bear a fee of 1% per annum of the
face value of each standby letter of credit issued. Borrowings under the line
of credit bear interest at (i) a formula approximating the Eurodollar rate plus
the applicable margin of 1.25%, (ii) the bank's prime rate minus 1.0% or (iii)
negotiated rate plus 1.25%. No borrowings were outstanding at December 31, 2004
and 2003.
9. LEASES
The Company leases certain facilities and equipment under operating leases.
Current operating lease obligations are expected to be renewed or replaced upon
expiration. Future minimum lease payments under all non-cancelable leases
expiring beyond one year as of December 31, 2004 are as follows:
(In thousands)
2005 $ 2,373
2006 2,311
2007 1,773
2008 1,689
2009 1,666
---------
$ 9,812
=========
Total rent expense amounted to approximately $2.2 million; $2.6 million
and $2.4 million for the years ended December 31, 2004, 2003 and 2002,
respectively.
77
10. INCOME TAXES
Income before income taxes for the Company's U. S. and foreign operations
was as follows:
2004 2003 2002
--------------------------------------------
(In thousands)
U. S. $ 12,147 $ 15,168 $ 21,357
Foreign 34,080 38,412 23,608
-------------- ------------- ---------------
$ 46,227 $ 53,580 $ 44,965
============== ============= ===============
The provision for income taxes is as follows:
2004 2003 2002
----------------------------------------------
(In thousands)
Current
Federal $ 1,672 $ 3,947 $ 7,389
State 305 720 1,348
Foreign 2,175 4,635 3,946
----------------------------------------------
Total current provision 4,152 9,302 12,683
----------------------------------------------
Deferred
Federal 221 3,332 (292)
State 40 608 (53)
Foreign 840 - -
----------------------------------------------
Total deferred provision (benefit) 1,101 3,940 (345)
----------------------------------------------
Total provision for income taxes $ 5,253 $ 13,242 $ 12,338
==============================================
The components of the net deferred tax asset are as follows:
2004 2003
-----------------------
(In thousands)
Deferred tax assets
Impairment of investments and capitalized development costs $ 1,814 $ 2,632
Property, plant and equipment 149 -
Accrued expenses and allowances 1,717 1,109
Advanced billing receipts 602 211
-----------------------
Total Deferred tax assets 4,282 3,952
-----------------------
Deferred tax liabilities
Provision for branch tax on dividend
equivalent in India (1,183) -
Provision for tax on unrealized gains in India (102)
-----------------------
Total Deferred tax liabilities (1,285) -
-----------------------
-----------------------
Net deferred tax assets $ 2,997 $ 3,952
=====================
78
Balance sheet classification of the net deferred tax asset is summarized
as follows:
2004 2003
--------------------------
(In thousands)
Deferred tax asset, current $ 1,895 $ 1,300
Deferred tax asset, non-current 1,102 2,652
--------------------------
$ 2,997 $ 3,952
==========================
Syntel's software development centers/units are located in Mumbai, Chennai
and Pune. Units in Mumbai are located in a Special Economic Zone (SEZ),
the unit at Chennai is 100% Export Oriented Unit (EOU) and units at Pune
are registered with Software Technologies Park of India (STPI). Under the
Indian Income Tax Act, 1961 (the "Act"), 100% EOUs at Chennai, units
registered with STPI at Pune and certain units located in SEZ are eligible
for an exemption from payment of corporate income taxes for up to 10 years
of operations on the profits generated from these undertakings or March
31, 2009 whichever is earlier. Certain units located in SEZ are eligible
for 100% exemption from payment of corporate taxes for the first 5 years
of operation and a 50% exemption for the next 5 years.
With effect from 1st April 2003 one of the Company's Software Development
Units has ceased to enjoy the above-mentioned tax exemption. Provision for
Indian Income Tax is made only in respect of business profits generated
from this software development unit, to the extent they are not covered by
the above exemptions and on income from investments and interest income.
The benefit of the tax Holiday granted by the Indian authorities was $7.6
million, $9.1 million and $5.9 million for the years 2004, 2003 and 2002,
respectively.
The Company intends to use accumulated and future earnings of foreign
subsidiaries to expand operations outside the United States and
accordingly undistributed earnings of foreign subsidiaries are considered
to be indefinitely reinvested outside the United States and no provision
for U. S. federal and state income tax or applicable dividend distribution
tax has been provided thereon.
However, the American Jobs Creation Act of 2004 enacted on October 22,
2004 ("the Jobs Act") provides for reduced US income tax rates for
repatriation of foreign earnings that occurs prior to December 31, 2005.
While the company has no current plans for the repatriation of foreign
earnings, the company is evaluating the potential effects of the Jobs Act
and foreign laws that might effect any such repatriation. If the company
determined to repatriate all undistributed repatriable earnings of foreign
subsidiaries as of December 31, 2004 (without considering the Jobs Act
provisions), the company would have accrued taxes of approximately $52.8
million. If the company determined to repatriate all undistributed
repatriable earnings of foreign subsidiaries (under the Jobs Act), the
company would accrue taxes, which would be material in amount but
significantly less than $52.8 million mentioned above.
The following table accounts for the differences between the actual tax
provision and the amounts obtained by applying the statutory U. S. federal
income tax rate of 35% to income before income taxes:
79
2004 2003 2002
-------------------------------------------
(In thousands)
Income before income taxes $ 46,227 $ 53,580 $ 44,965
-------------------------------------------
Statutory provision 35.0% 35.0% 35.0%
State taxes, net of federal benefit 1.0% 1.0% 1.7%
Tax-free investment income (0.4%) (0.6%) (0.9%)
Foreign effective tax rates different from US
Statutory Rate (19.3%) (16.4%) (9.6%)
Tax reserves (3.8%) 5.7% 1.6%
Other, net (1.1%) 0.0% (0.4%)
-------------------------------------------
Total Provision 11.4% 24.7% 27.4%
-------------------------------------------
The Company records provisions for income taxes based on enacted tax
laws and rates in the various taxing jurisdictions in which it operates.
In determining the tax provisions, the Company also provides for tax
contingencies based on the Company's assessment of future regulatory
reviews of filed tax returns. Such reserves, which are recorded in
income taxes payable, are based on management's estimates and
accordingly are subject to revision based on additional information. The
provision no longer required for any particular tax year, is credited to
the current period's income tax expenses.
During the year ended December 31, 2004, the Company has reversed $1.7
million of such tax provision related to the year 2000 and credited it
to the current year's income tax expenses. During the year ended
December 31, 2004, 2003 and 2002, the effective income tax rate was
11.4%, 24.7% and 27.4% respectively. The effective income tax rate
during the year ended December 31, 2004, without adjusting the
above-mentioned reversal, the tax credit of $0.5 million in Syntel India
and the research and development tax credit of $0.5 million in Syntel
Inc., was 17.3%. The tax rate continues to be positively impacted by the
combined effects of offshore transition and reduced onsite
profitability.
Syntel India has not provided for disputed Indian income tax liabilities
aggregating $2.18 million for the financial years 1995-96 to 2000-01.
Syntel India has obtained an opinion from one independent legal counsel
(former Chief Justice of the Supreme Court of India) for the financial
year 1998-99 and two opinions from another independent legal counsel
(also a former Chief Justice of the Supreme Court of India) for the
financial years 1999-2000 and 2000-01, which support Syntel India's
stand in this matter. During the second quarter of 2004, Syntel India
also obtained opinions from the said legal counsel for the periods
1995-96 to 1997-98 and periods beginning with financial year 2001-02 to
date which also support Syntel India's stand in this matter.
Syntel India had filed an appeal with Commissioner of Income Tax
(Appeals) for the financial year 1998-99 and received a favorable
decision. However the Income Tax Department has appealed this favorable
decision with the Income Tax Appellate Tribunal. A similar appeal filed
by Syntel India with Commissioner of Income Tax (Appeals) for the
financial year 1999-2000 was however dismissed in March 2004. Syntel
India has appealed this decision with the Income Tax Appellate Tribunal.
Syntel India has since also received orders for appeals filed with
Commissioner of Income Tax (Appeals) against the demands raised in March
2004 by the Income Tax Officer for similar matters relating to the
financial years 1995-96, 1996-97, 1997-98 and 2000-01 and received a
favorable decision for 1995-96 and for the other three years the
contention of Syntel India is partially upheld. Syntel India has gone
80
into further appeal with the Income tax Appellate Tribunal for the
amounts not allowed by the Commissioner of Income Tax (Appeals).
Further, Syntel India has received demand for interest amounting to
$0.019 million and $0.013 million for late payment of demand pertaining
to the financial year 2000-01 and 1999-00 respectively, against which
Syntel India had filed appeals with Commissioner of Income Tax
(Appeals). The said appeals have been dismissed. Syntel India is in the
process of filing petition with Chief Commissioner of Income tax.
On February 28, 2005, Syntel India has received a demand from the Indian
income tax authorities for Indian Income tax of $3.403 million for the
financial year 2001-02. Out of this amount Syntel India has not provided
for $2.968 million. Syntel India has obtained an opinion from an
independent legal counsel (former Chief Justice of the Supreme Court of
India) supporting Syntel India's position for an item of dispute
amounting to $0.386 million. For the other items of dispute, Syntel
India has obtained an opinion from another independent legal counsel
(former Chief Justice of the Supreme Court of India) which supports
Syntel India's stand in this matter. Further, Syntel India is in the
process of filing an appeal with the Commissioner of Income Tax
(Appeals).
All above tax exposures involve complex issues and may need an extended
period to resolve the issues with Indian Income Tax Authorities.
TAX CREDIT
During the year ended December 31, 2004, the provision for income tax
was reduced by research and development tax credits claimed. The tax
credits relate to increased qualified expenditures for software
development. The Company recently completed a review of such qualified
expenditures and filed refund claims for the tax years ended December
31, 1999, 2000, 2001 and 2002. The appropriate tax benefit for these
years has been recorded currently in conjunction with the completion of
the review. This tax credit had a positive impact of $0.5 million on
taxes.
In addition, during the year ended December 31, 2004 Syntel India has
accounted for a credit of approximately $0.5 Million in respect of US
branch profit taxes related to prior periods up to June 30, 2004 and
also reclassified in the balance sheet $1.0 million from provision for
income taxes to deferred tax liability.
11. EARNINGS PER SHARE
The reconciliation of earnings per share computations for the years 2004,
2003, and 2002 are as follows:
2004 2003 2002
----------------------- ---------------------- ----------------------
Per Per Per
Shares Share Shares Share Shares Share
----------------------- ---------------------- ----------------------
(In thousands, except per share data)
Basic earnings per share
(1) 40,216 $1.02 39,609 $1.02 38,733 $0.84
Potential dilutive effect
of stock options and
warrants outstanding 253 (0.01) 1,188 (0.03) 1,184 (.03)
----------------------- ---------------------- ----------------------
40,469 $1.01 40,797 $0.99 39,917 $0.81
======================= ====================== ======================
81
(1) Represents weighted average number of common shares
As of December 31, 2004, 2003 and 2002, stock options to purchase 135,700,
44,500 and -0- shares of Common Stock, respectively, at a weighted average
price per share of $24.13, $25.00 and $-0- respectively, were outstanding
but were not included in the computation of diluted earnings per share.
The options' exercise price was greater than the average market price of
the common shares and was anti-dilutive.
12. DIVIDEND
The Board of Directors at its meeting on March 3, 2005 has declared a
special dividend of $1.50 per share payable to Syntel shareholders of
record at the close of business on March 14, 2005. The dividend is payable
on March 31, 2005.
The shareholders of record as of December 31, 2004 have been paid $0.06
per share on January 14, 2005.
The Board of Directors at its meeting in July 2003 declared a one-time
special dividend of $1.25 per share payable to Syntel shareholders of
record at the close of business on August 29, 2003, which was paid on
September 12, 2003.
In addition, the Board of Directors at the same meeting approved the
initiation of quarterly cash dividends. The initial dividend rate will be
$0.06 per share per quarter.
Per share dividends paid for the year 2004 was $0.24. During the year 2003
and 2002 $1.31 and $-0- respectively per share dividends were paid.
13. STOCK COMPENSATION PLANS
The Company established a stock option plan in 1997 under which 3 million
shares of Common Stock were reserved for issuance. The dates on which
granted options are first exercisable are determined by the Compensation
Committee of the Board of Directors, but generally vest over a four-year
period from the date of grant. The term of any option may not exceed ten
years from the date of grant.
For certain options granted during 1997, the exercise price was less than
the fair value of the Company's stock on the date of grant and,
accordingly, compensation expense was being recognized over the vesting
period for such difference. For the options granted thereafter, the
Company grants the options at the fair market value on the date of grant
of the options. The Company applies APB Opinion No. 25 and related
Interpretations in accounting for this plan. In accordance with APB
Opinion No. 25, no compensation cost would need to be recognized for the
options granted post 1998 as the exercise price equaled the fair value of
value of the shares on the date of the grant.
82
Stock option activity during the years ended December 31, 2004, 2003 and
2002 is as follows:
Weighted
Number Average
of Shares Price
-----------------------------------
Shares under option
Outstanding, January 1, 2002 2,748,296 $ 7.68
Activity during 2002
Granted, price equals fair value 674,598 12.31
Exercised 853,083 7.14
Forfeited 223,629 9.19
Expired 7,708 8.38
-----------------------------------
Outstanding, December 31, 2002 2,338,474 9.07
Activity during 2003
Granted, price equals fair value 273,250 18.90
Exercised 694,858 8.39
Forfeited 587,127 11.55
Expired 14,329 10.92
-----------------------------------
Outstanding, December 31, 2003 1,315,410 10.33
Activity during 2004
Granted, price equals fair value 85,711 25.33
Exercised 264,613 8.01
Forfeited 247,352 15.95
Expired 5,833 7.74
-----------------------------------
Outstanding, December 31,2004 883,323 10.93
===================================
Exercisable, December 31, 2002 495,418 $ 7.61
Exercisable, December 31, 2003 379,672 $ 7.94
Exercisable, December 31, 2004 400,830 $ 8.38
===================================
The following tables sets forth details of options outstanding and
exercisable at December 31, 2004:
-------------------------- --------------------------------------------- -------------------------------
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------- --------------------------------------------- -------------------------------
Range of Exercise Prices Number Weighted Weighted Number Weighted
Outstanding Average Average Exercisable Average
Remaining Exercise Exercise Price
Contractual Price
Life (years)
-------------------------- ---------------- -------------- ------------- --------------- ---------------
$3.3191 - $6.6380 309,774 5.90 $5.07 140,317 $5.12
$6.6381 - $9.9570 209,531 5.10 8.29 175,320 8.31
$9.9571 - $13.2760 85,368 6.50 11.59 44,268 11.42
$13.2761 - $16.5950 142,350 7.50 14.53 30,475 14.40
$16.5951 - $19.9140 11,600 7.30 18.88 3,000 18.77
$19.9141 - $23.2330 25,700 9.20 21.40 - -
$23.2331 - $26.5520 81,500 8.80 24.25 7,450 24.63
$26.5521 - $29.8710 17,500 9.10 28.25 - -
-------------------------- ---------------- -------------- ------------- --------------- ---------------
883,323 6.50 $ 10.93 400,830 $ 8.38
---------------- -------------- ------------- --------------- ---------------
83
The Company has an employee stock purchase plan, which provides for
employees to purchase pre-established amounts of the Company's Common
Stock as determined by the compensation committee. The price at which
employees may purchase Common Stock is set by the compensation committee
as not less than the lesser of 85% of the fair market value of the Common
Stock on the NASDAQ National Market on the first day of the purchase
period or 85% of the fair market value of the Common Stock on the last day
of the purchase period. The Company has reserved 1.5 million shares of
Common Stock for issuance under the Company's employee stock purchase
plan. Under the terms of the plan, eligible employees may elect to have up
to 5% of their regular base earnings withheld to purchase company stock,
with a maximum contribution value, which may not exceed $21,250 for each
calendar year in which a purchase period occurs. As of December 31, 2004
and 2003 the Company has $0.5 million and $0.5 million, respectively of
employee withholdings, included in accrued payroll and related costs in
the balance sheet to be used to purchase company stock. As of December 31,
2004 and 2003, 848,899 and 917,218 shares of Common Stock were available
under the plan.
RESTRICTED STOCK:
On different dates during the quarter ended June 30, 2004 the Company
issued 319,300 shares of incentive restricted stock to its non-employee
directors and some employees as well as to some employees of its
subsidiaries. The stocks were granted to employees for their future
services as a retention tool at a zero exercise price, with the
restrictions on transferability lapsing with regard to 10%, 20%, 30%, and
40% of the shares issued on or after the first, second, third and fourth
anniversary of the grant dates, respectively.
Based upon the market value on the grant dates, the Company recorded $5.83
million of unearned compensation during the quarter ended June 30, 2004,
included as a separate component of shareholders equity to be expensed
over the four year's service period on a straight line basis. During the
year ended December 31, 2004, the Company reversed $0.40 million of
unearned compensation towards forfeiture of restricted stock on account of
termination of employees and expensed $0.83 million as compensation cost
on account of these stock grants.
The recipients are also eligible for dividends declared on their
restricted stock. The dividends paid on shares of unvested restricted
stock are charged to compensation cost. For the year ended December 31,
2004, the Company recorded $0.05 million as compensation cost for
dividends paid on shares of unvested restricted stock.
14. COMMITMENTS & CONTINGENCIES
Syntel's subsidiaries have commitments for capital expenditures (net of
advances) of $9.7 million primarily related to the technology Campus being
constructed at Pune, India, as of December 31, 2004.
The Company and its subsidiaries are parties to litigation and claims,
which have arisen, in the normal course of their activities. Although the
amount of the Company's ultimate liability, if any, with respect to these
matters cannot be determined with reasonable certainty, management, after
consultation with legal counsel, believes that the resolution of such
matters will not have a material adverse effect upon the Company's
consolidated financial position.
Syntel India's operations are carried out from their development
84
centers/units in Mumbai forming part of a Special Economic Zone (`SEZ')
and in Chennai and Pune, which are registered under the Software
Technology Parks (`STP') scheme. Under these schemes the registered units
have export obligations, which are based on the formula provided by the
notifications/circulars issued by the STP and SEZ authorities from time to
time. The consequence of not meeting the above commitments would be a
retroactive levy of import duty on items previously imported duty free for
these units. Additionally the respective authorities have rights to levy
penalties for any defaults on a case-by-case basis. The Company is
confident of meeting these obligations.
15. EMPLOYEE BENEFIT PLANS
Provident Fund Contribution expense recognized by Syntel India was $0.5
million; $0.2 million and $0.1 million for the years ended December 31,
2004, 2003 and 2002, respectively.
Expense recognized by Syntel India under the Gratuity Plan was $0.02
million; $0.3 million; and $0.2 million for the years ended December 31,
2004, 2003 and 2002, respectively.
16. ALLOWANCES FOR DOUBTFUL ACCOUNTS
The movement in the allowance for doubtful accounts for the years 2004,
2003 and 2002 are as follows:
2004 2003 2002
--------------------------------------
(In thousands)
Balance, beginning of year $ 809 $ 3,551 $ 6,004
Provisions (reductions), net 400 (493) 518
Write-offs (27) (2,267) (3,071)
Others 31 18 100
--------------------------------------
Balance, end of year $ 1,213 $ 809 $ 3,551
--------------------------------------
17. SEGMENT REPORTING
The Company has adopted SFAS No. 131, "Disclosures about Segments of an
Enterprises and Related Information", which requires reporting information
about operating segments in annual financial statements. It has also
established standards for related disclosures about its business segments
and geographic areas. Operating segments are defined as components of an
enterprise about which separate financial information is available. This
information is reviewed and evaluated regularly by the management, in
deciding how to allocate resources and in assessing the performance.
The Company is organized geographically and by business segment. For
management purpose, the Company is primarily organized on a worldwide
basis into four business segments:
o Application Outsourcing,
o e-Business,
o TeamSourcing; and
o Business Process Outsourcing (BPO).
85
These segments are the basis on which the Company reports its primary
segment information to the management.
Through Application Outsourcing, the Company provides higher-value
applications management services for ongoing management, development and
maintenance of customers' business applications.
Through e-Business, the Company provides development and implementation
services for a number of emerging and rapidly growing high technology
applications, including Web development, Data Warehousing, e-commerce,
CRM, Oracle, and SAP; as well as partnership agreements with software
providers.
Through TeamSourcing, the Company provides professional information
technology consulting services directly to customers on a staff
augmentation basis. TeamSourcing services include systems specification,
design, development, implementation and maintenance of complex information
technology applications involving diverse computer hardware, software,
data and networking technologies and practices.
Through BPO, Syntel provides outsourced solutions for a client's business
processes, providing them with the advantage of a low cost position and
process enhancement through optimal use of technology. Syntel uses a
proprietary tool called IdenteonTM to assist with strategic assessments of
business processes and identifying the right ones for outsourcing.
The accounting policies of the segments are the same as those presented in
Note - 2. Management allocates all corporate expenses to the segments. No
balance sheet/identifiable assets data is presented since the Company does
not segregate its assets by segment.
2004 2003 2002
----------------------------------------------
(In Thousands)
Net Revenues
Applications Outsourcing $143,007 $136,424 $113,981
e-Business 29,249 33,795 31,951
TeamSourcing 12,480 9,288 15,575
BPO 1,837 - -
----------------------------------------------
186,573 179,507 161,507
Gross Profit
Applications Outsourcing 62,696 62,282 54,053
e-Business 11,302 14,389 11,429
TeamSourcing 4,598 1,137 2,015
BPO 857 - -
----------------------------------------------
79,453 77,808 67,497
Selling, general and administrative
expenses 36,999 28,278 31,421
Reduction in reserve requirements for
Metier transaction - (882) (5,698)
----------------------------------------------
INCOME FROM OPERATIONS $ 42,454 $ 50,412 $ 41,774
===============================================
The Company's largest customer in 2004, 2003 and 2002 was American
Express,
86
which was the only customer who accounted for revenues in excess of 10% of
total consolidated revenues. Revenue from this customer was approximately
$29.4 million, $28.8 million and $28.6 million, contributing approximately
16%, 16% and 18% of total consolidated revenues during 2004, 2003 and 2002,
respectively. At December 31, 2004 and 2003 accounts receivable, from this
customer were $1.5 million and $2.0 respectively. All revenue from this
customer was generated in the Applications Outsourcing segment.
18. GEOGRAPHIC INFORMATION
Customers of the Company are primarily situated in the United States. Net
revenues and net income (loss) from each geographic location were as
follows:
2004 2003 2002
--------------------------------------------
(In thousands)
Net revenues
North America, primarily United States $ 167,240 $ 163,121 $ 148,326
India 90,230 71,823 43,891
UK 13,410 15,303 12,182
Far East, primarily Singapore 1,501 907 830
Germany 2,692 720 85
Inter-company revenue elimination (primarily India)
(88,500) (72,367) (43,807)
--------------------------------------------
Net revenues $ 186,573 $ 179,507 $ 161,507
============================================
Net income (loss)
North America, primarily United States $ 10,459 $ 6,650 $ 12,824
India 28,831 33,168 19,808
UK 1,732 895 324
Far East, primarily Singapore 194 (114) (32)
Germany (242) (295) (438)
--------------------------------------------
Net Income $ 40,974 $ 40,304 $ 32,486
============================================
Assets, December 31
North America, primarily United States $ 110,613 $ 99,740 $ 125,932
India 106,014 75,754 50,447
UK 8,892 9,015 6,808
Far East, primarily Singapore 560 80 363
Germany 889 609 22
--------------------------------------------
$ 226,968 $ 185,198 $ 183,572
============================================
87
19. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Selected financial data by calendar quarter were as follows:
First Second Third Fourth Full Year
Quarter Quarter Quarter Quarter
(In thousands, except per share data)
2004
Net revenues $45,089 $45,846 $46,602 $49,036 $186,573
Cost of revenues 26,085 26,234 27,014 27,787 107,120
--------------------------------------------------------
Gross profit 19,004 19,612 19,588 21,249 79,453
Selling, general and administrative expenses 8,839 8,822 8,850 10,488 36,999
--------------------------------------------------------
Income from operations 10,165 10,790 10,738 10,761 42,454
Other income, principally interest 996 357 753 1,667 3,773
--------------------------------------------------------
Income before income taxes 11,161 11,147 11,491 12,428 46,227
Provision for (benefit from) income taxes 1,839 1,742 (402) 2,074 5,253
--------------------------------------------------------
Net income $9,322 $9,405 $11,893 $10,354 $40,974
========================================================
Earnings per share, diluted (c) $0.23 $0.23 $0.29 $0.26 $1.01
========================================================
Weighted average shares outstanding, diluted 40,614 40,510 40,335 40,416 40,469
========================================================
2003
Net revenues (a) $44,078 $43,915 $44,105 $47,409 $179,507
Cost of revenues 25,080 24,156 25,738 26,725 101,699
--------------------------------------------------------
Gross profit 18,998 19,759 18,367 20,684 77,808
Selling, general and administrative expenses (b) 7,889 6,509 6,253 7,627 28,278
Reduction in reserve requirements applicable to
Metier transaction - - (882) - (882)
--------------------------------------------------------
Income from operations 11,109 13,250 12,996 13,057 50,412
Other income, principally interest 615 845 632 1,076 3,168
--------------------------------------------------------
Income before income taxes 11,724 14,095 13,628 14,133 53,580
Provision for income taxes 3,347 3,821 2,884 3,190 13,242
--------------------------------------------------------
Net income before loss from
equity investments 8,377 10,274 10,744 10,943 40,338
Loss / (Income) from equity investments 25 22 (13) 0 34
--------------------------------------------------------
Net income $ 8,352 $10,252 $10,757 $10,943 $40,304
========================================================
Earnings per share, diluted (c) $ 0.21 $ 0.25 $ 0.26 $ 0.27 $ 0.99
========================================================
Weighted average shares outstanding, diluted 40,493 40,638 40,975 41,081 40,797
========================================================
88
a) As discussed in Note 5, the Company recorded a $1.7 million stock warrant
sales incentive as a reduction of revenue during the year 2003. Quarterly
breakdown for which is as below
Q1-2003 - $(0.1)million
Q2-2003 - $ 0.1 million
Q3-2003 - $ 1.6 million
Q4-2003 - $ 0.1 million
b) Includes reversals on account of:
(i) Successful recovery of receivables previously provided for as
allowance for doubtful accounts of approximately $0.8 million and $0.5
million in the second and third quarter respectively, net of amounts
provided for in the first quarter of approximately $0.8 million.
(ii) Revision of the estimated reserve for various litigation and legal
fees due to settlements and other changes in estimates of underlying
legal costs of $0.5 million, $0.5 million, $1.7 million and $0.2
million in the first, second, third and fourth quarter respectively,
including $0.9 million related to Metier transaction in the third
quarter.
(iii) Downward revision of the 2002 estimates of bonus compensation of $0.8
million in the first quarter.
c) Earnings per share for the quarter are computed independently and may not
equal the earnings per share computed for the total year.
89
EXHIBIT INDEX
Exhibit No. Description
10.10 Amendment to Credit Agreement dated August 19, 2004, between
the Registrant and Bank One, NA.
10.11 Leave and License Agreement, dated June 11, 2004, between
Lake View Developers and Syntel Sourcing Pvt. Ltd.
10.12 Lease Deeds, dated September 23, 2004 between Arihant
Foundation and Housing Ltd. and Syntel Limited.
10.13 Lease Deed, dated October 6, 2004, between Arihant Foundation
and Housing Ltd. and Syntel Limited.
14 Code of Ethical Conduct
21 Subsidiaries of the Registrant.
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer
32 Section 1350 Certification of Chief Executive Officer and
Chief Financial Officer
90