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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
     

FORM 10-Q

OR

Commission File No.: 0-9233

American Management Systems, Incorporated
(Exact name of registrant as specified in its charter)

4050 Legato Road
Fairfax, Virginia 22033
(Address of principal executive office)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

As of November 7, 2002, 42,266,248 shares of common stock were outstanding.

CONTENTS

Part I FINANCIAL INFORMATION

Item 1.  Unaudited Consolidated Condensed Financial Statements and Notes

American Management Systems, Incorporated
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS

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American Management Systems, Incorporated
CONSOLIDATED CONDENSED BALANCE SHEETS

(continued)

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American Management Systems, Incorporated
CONSOLIDATED CONDENSED BALANCE SHEETS

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American Management Systems, Incorporated
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

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American Management Systems, Incorporated
SUPPLEMENTAL CONSOLIDATED REVENUES BY MARKET

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American Management Systems, Incorporated
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

Unaudited

NOTE 1 – BASIS OF PRESENTATION

The accompanying unaudited interim consolidated condensed financial statements of American Management Systems, Incorporated (the “Corporation”) have been prepared pursuant to the rules and regulations of the SEC for quarterly reports on Form 10-Q and do not include all of the information and note disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. These financial statements should be read in conjunction with the consolidated financial statements and notes for the fiscal year ended December 31, 2001, included in the Corporation’s Annual Report on Form 10-K filed with the SEC on March 29, 2002. The accompanying unaudited interim consolidated condensed financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and reflect all adjustments that are, in the opinion of management, necessary for a fair presentation of results for these interim periods. The results of operations for the three and nine months ended September 30, 2002 are not necessarily indicative of the results that may be expected for the full year. Certain prior period amounts have been reclassified to conform with the current period presentation.

NOTE 2 – COMPREHENSIVE INCOME

The Corporation accounts for comprehensive income under SFAS No. 130, “Reporting Comprehensive Income.” The components of comprehensive income are as follows (in millions):

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NOTE 3 – EARNINGS PER SHARE RECONCILIATION

Basic earnings per share is computed by dividing net income by the weighted average shares outstanding during the year. Diluted earnings per share is computed similarly to basic earnings per share except that the weighted average shares outstanding is increased to include the potentially dilutive effect of outstanding options and restricted stock.

The computations for basic and dilutive EPS are as follows (in millions, except per share data):

NOTE 4 – GOODWILL — ADOPTION OF SFAS NO. 142

Effective January 1, 2002, the Corporation adopted Statement of Financial Accounting Standards No. 142, (“SFAS 142”), “Goodwill and Other Intangible Assets.” SFAS 142 requires, among other things, the discontinuance of goodwill amortization. In addition, SFAS 142 requires the Corporation to perform a transitional goodwill impairment test within six months from the date of adoption. In accordance with the standard, the Corporation completed the transitional goodwill impairment test and determined no impairment charge of goodwill is required. Under SFAS 142, goodwill is to be reviewed at least annually thereafter for impairment; the Corporation has elected to perform this review annually as of January 1.

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The following table discloses the reconciliation of reported net income to net income adjusted for goodwill amortization expense (in millions, except per share data).

NOTE 5 – INCOME TAXES

During the nine months ended September 30, 2002, the Corporation revised its annual effective tax rate from 41% to 33%. An analysis performed by the Corporation, with the support of an outside consultant, of approximately 60 client contracts indicated the Corporation could claim additional research and experimentation tax credits on prior year Federal income tax returns. The calculation of these credits resulted from a thorough analysis of qualifying expenditures and IRS allowability of such credits. The reduced annual effective tax rate reflects the expected value of the tax refunds due from the amended Federal income tax returns.

NOTE 6 – RESTRUCTURING CHARGE

Severance & Benefits

In 2001, the Corporation implemented a restructuring plan and recorded a charge for severance and severance-related costs. As of December 31, 2001, the Corporation had a remaining severance liability of $6.3 million, all of which had been paid as of June 30, 2002. Continuing the Corporation’s efforts to align its workforce with changing market conditions and new business strategies, for the nine months ended September 30, 2002, the Corporation recorded additional charges totaling $17.6 million for severance and severance-related costs primarily as a result of identifying approximately 423 additional staff reductions. Staff reductions include individuals at all levels within the Corporation in both professional service and support functions. During the nine months ended September 30, 2002, the Corporation paid $16.7 million in severance and severance-related costs. Of the 423 additional staff reductions, approximately 338 had been terminated and separated from the Corporation at September 30, 2002. The remaining $7.2 million liability as of September 30, 2002 for severance and severance-related costs is expected to be paid within one year.

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Facilities

As of December 31, 2001, the Corporation had a remaining restructuring liability of $17.8 million related to the closure and consolidation of facilities. During the nine months ended September 30, 2002, the Corporation recorded an additional charge of $4.5 million related to changes in estimates primarily attributable to current real estate market conditions and the timing of anticipated subtenant rental agreements. During the nine months ended September 30, 2002, the Corporation made cash payments of $6.1 million. Of the remaining $16.0 million liability at September 30, 2002, $10.6 million represents a noncurrent liability for costs to be incurred through 2010.

Restructuring reserve activities as of and for the nine months ended September 30, 2002 (in millions) were as follows:

NOTE 7 – COMMITMENTS AND CONTINGENCIES

On July 17, 2001, the Federal Retirement Thrift Investment Board (the “Thrift Board”) gave written notice to AMS stating that the Thrift Board had terminated for default its contract with AMS for development and implementation of an automated record-keeping system for the federal employee Thrift Savings Plan. On the same date, the Thrift Board’s executive director, Roger W. Mehle, purporting to act as “managing fiduciary” of the Thrift Savings Fund, filed a companion lawsuit against AMS relating to AMS’s performance of the contract seeking compensatory damages of $50.0 million and punitive damages of $300.0 million, plus re-procurement costs, costs and expenses of litigation (including reasonable attorneys’ fees) and prejudgment interest.

AMS moved to dismiss the lawsuit filed by Mr. Mehle. On November 30, 2001, the United States District Court for the District of Columbia granted AMS’s motion to dismiss Mr. Mehle’s lawsuit for lack of jurisdiction. Mr. Mehle has appealed that order. AMS has filed both procedural and dispositive motions with the Court of Appeals. On January 25, 2002, the U.S. Department of Justice filed a motion on behalf of the U.S. Government to intervene which has been granted, and a motion to dismiss Mr. Mehle’s appeal. Both the Government’s motion to dismiss the appeal and the motion by AMS to dismiss the appeal are opposed by Mr. Mehle, and are pending. A motion by AMS, whose position is supported by the United States, to strike the appearance of private counsel representing Mr. Mehle, also is pending and is opposed by Mr. Mehle. The Court of Appeals has disposed of several other motions, largely procedural in nature. The Court of Appeals has set a briefing schedule for the appeal; oral argument is scheduled for March 7, 2003.

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AMS believes that the appropriate forum for resolving its dispute over the Thrift Board contract is in the United States Court of Federal Claims (“CFC”), a court of specialized jurisdiction that ordinarily entertains all disputes relating to U.S. Government contracts. To that end, AMS filed suit in the CFC against the United States, which is the contracting party in the Thrift Board contract, seeking reversal of the Thrift Board’s decision terminating the contract for default and asking the court to convert the termination into a termination for convenience. The U.S. Department of Justice is defending the United States in this case. The United States moved to dismiss AMS’s Complaint for lack of jurisdiction, arguing that the Thrift Board is a non-appropriated fund instrumentality (“NAFI”). AMS opposed the Government’s jurisdictional motion. By written opinion and order dated August 30, 2002, the CFC denied the United States’ motion to dismiss, concluding that jurisdiction did, in fact, exist. On September 12, 2002, the United States filed its Answer to AMS’s Complaint, thereby responding to AMS’s claims in the CFC. On November 1, 2002, the United States filed a motion seeking permission from the CFC to immediately appeal the CFC’s August 30, 2002 decision, and an order staying further proceedings in the CFC pending the resolution of any such appeal. AMS intends to oppose the United States’ motion. Management is unable to predict the outcome of the litigation. At September 30, 2002, AMS had approximately $40.4 million of accounts receivable, classified as a long-term contract receivable in Other Assets outstanding under this contract.

On July 16, 2002, AMS submitted a contract termination settlement proposal and claim to the Thrift Board seeking recovery of approximately $58.5 million of unpaid costs and fees incurred in performing the contract and winding it down in accordance with the termination for convenience provisions of the contract. The proposal was submitted pursuant to the instructions given by the Thrift Board’s contracting officer at the time of termination and in accordance with the terms of the contract and the Federal Acquisition Regulation. The submission of a government contractor’s settlement proposal is a routine step in the administrative process of terminating a federal government contract. On August 16, 2002, the Thrift Board denied any liability to pay the settlement proposal and claim. AMS intends to challenge the Thrift Board’s decision with respect to these matters.

NOTE 8 – NEW ACCOUNTING PRONOUNCEMENTS

In June 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 143 (“SFAS 143”), “Accounting for Asset Retirement Obligations,” which is effective January 1, 2003. This statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. The Corporation does not believe that the adoption of SFAS 143 will have a significant impact on its financial position or results of operations.

On January 1, 2002, the Corporation adopted SFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” which addresses the financial accounting and reporting for the impairment of long-lived assets. This statement supersedes SFAS 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.” SFAS 144 also supersedes Accounting Principles Board Opinion No. 30 (“APB 30”), “Reporting the Results of Operations – Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions.” The adoption of this standard did not have a material effect on the financial statements.

In June 2002, the FASB issued SFAS 146, “Accounting for Costs Associated with Exit or Disposal Activities,” which is effective January 1, 2003. SFAS 146 nullifies Emerging Issues Task Force Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring).” This statement requires that an exit or disposal activity-related cost be recognized when the liability is incurred instead of when an entity commits

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to an exit plan. The Corporation does not believe that the adoption of SFAS 146 will have a significant impact on its financial position or results of operations.

NOTE 9 – SUBSEQUENT EVENTS

On November 11, 2002, the Corporation announced plans to sell its global utilities practice to Wipro, Ltd. for approximately $26 million, as part of the Corporation’s continuing strategy to reposition for growth. The agreement includes the transfer of customers and intellectual property. The transaction, which is scheduled to close prior to year-end, has been approved by the board of directors of both companies and is subject to customary legal approvals and closing conditions.

On November 13, 2002, the Corporation replaced its former $120 million multi-currency bank credit facility with a new $160 million three year multi-currency bank credit agreement that expires on November 13, 2005. The new credit facility is available for general corporate purposes and the Corporation presently has no outstanding borrowings under the facility. The Corporation and certain subsidiaries may borrow funds under the new revolving credit agreement in the approved currencies, subject to certain minimum amounts per borrowing. Interest on such borrowings generally ranges from LIBOR plus 112.5 basis points to 175.0 basis points, depending on the debt-to-EBITDA ratio, as defined in the agreement. The Corporation is required to pay a facility fee ranging from 50 to 65 basis points per annum on the total facility based on the debt-to-EBITDA ratio. The new revolving credit agreement includes covenants relating to the maintenance of certain financial ratios, and may impose restrictions on our ability to pay dividends or make acquisitions, divestitures and investments.

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with our consolidated condensed financial statements and notes included in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2001.

Forward-Looking Statements and Factors that May Affect Our Business

We have included in this Quarterly Report on Form 10-Q forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to risks, uncertainty and changes in circumstances. Actual results may vary materially from the expectations contained in these forward-looking statements. These statements are based on our current expectations, estimates and projections. Our use of words such as “anticipates,” “believes,” “expects,” “estimates,” “intends,” and similar expressions are generally intended to identify forward-looking statements. The following factors, among others, could cause actual results to differ materially from those described in the forward-looking statements:

	•		A significant or prolonged economic downturn in the U.S. or internationally could have a material adverse effect on our operating results.
	•		Disruptions in commercial activities occasioned by actual or threatened terrorist activity or armed conflict could have a significant negative effect on our results of operations.
	•		Our inability to complete large projects as expected due to unanticipated delays, re-negotiations, cancellation by the customer, and changing customer requirements and project scope could result in a decline in revenues or profits, a diminution of our professional reputation or legal liability.
	•		Our inability to successfully recruit, retain and assimilate entry-level and experienced employees could adversely affect our operating results and our ability to effectively compete and grow our business.
	•		Our pricing, revenues and margins could be negatively affected if current or prospective clients decide to undertake fewer information technology systems projects or to consolidate with others in our target markets.
	•		We may be unable to realize revenues from benefits-funded contracts in the amounts or at the times expected if our customers are unable to achieve the amount of benefits anticipated due to factors such as economic downturns, tax base erosion or state cutbacks that result in fewer state resources being available to generate profits.

We specifically disclaim any obligation to update these forward-looking statements. These forward-looking statements should not be relied upon as representing our estimates or views as of any subsequent date.

Corporation Overview

AMS is an international business and information technology consulting firm whose customers have included 43 state and local governments, most federal agencies, and hundreds of companies in the Fortune 500. With deep industry experience and technical know-how in all levels of government and throughout

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the private sector, AMS delivers results that dramatically impact business performance and the relationship between an organization and its customers. Founded in 1970, AMS is headquartered in Fairfax, Virginia with 50 other offices worldwide.

Our mission is to partner with customers to improve their business performance through the intelligent use of information technology. Our business approach blends deep industry knowledge with strategic services, technology innovation and project delivery expertise to manage mission-critical information technology and eBusiness initiatives. We exploit technology trends through applied research and development, best-of-breed alliances with fellow market leaders and our experienced professional staff.

We operate as one segment and focus on clients in specific industries, which we call target markets. We have the following five target markets: Federal Government Agencies; State and Local Governments and Education; Communications, Media and Entertainment (formerly New Media and Communications Firms); Financial Services Institutions; and Other Corporate Clients.

Presentation

Revenues
We derive our revenues primarily from contracts for business and information technology solutions. Revenue recognition is based on the terms of our contracts. Revenues on fixed-price contracts are recognized using the percentage-of-completion method based on the percentage of costs incurred to date in relation to total estimated costs. Revenues on cost-reimbursable contracts are recognized to the extent of costs incurred plus a proportionate amount of the fee earned. Revenues on time-and-materials contracts are recognized to the extent of billable rates times hours delivered plus expenses incurred. Revenues from benefits-funded contracts are deferred until it can be predicted with reasonable certainty that the client’s benefit stream will generate amounts sufficient to fund the contract. After that time, revenues from benefits-funded contracts are also generally recognized on a percentage-of-completion basis. Reimbursements, including those relating to travel and other out-of-pocket expenses, are included in revenues, and an equivalent amount of reimbursable expenses are included in client project expense.

Operating Expenses
Our major types of operating expenses include the following:

	•		Client Project expenses include direct expenses to provide services to our clients such as compensation costs, travel and out-of-pocket expenses, and costs for subcontractors.
	•		Selling, General and Administrative (“SG&A”) expenses include expenses not directly related to the delivery of client services such as compensation for support personnel, costs for information systems, incentive compensation, selling and marketing expenses, and recruiting and training expenses.
	•		Research and Product Support expenses include research and development expenses incurred as part of the software development cycle that are not capitalized as well as support/maintenance of existing software.
	•		Depreciation and Amortization expenses include the amortization of internally developed and purchased software and depreciation of furniture, equipment and leasehold improvements. Prior to January 1, 2002 the amortization of goodwill was also included. Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” (“SFAS

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			142”) which was adopted January 1, 2002, requires the discontinuation of goodwill amortization.
	•		Restructuring Charge includes expenses associated with implementing our formal restructuring plan.
	•		Special Charge includes significant expenses associated with the write-down of certain software assets no longer expected to provide future value and reserves in connection with certain client engagements.

Interest Income/Expense
Interest expense (net of interest income) is related to interest incurred on borrowings and fees on our revolving credit facility. It also includes interest expense related to our deferred compensation plan.

Other Income/Expense
Other income/expense includes activity not related to our primary business. For example, other income/expense includes gains and losses on the disposal of assets, market gains and losses and premium expense on company-owned life insurance policies, and the costs incurred in connection with amending prior year tax returns.

Loss on Equity Investments
Loss on equity investments reflects our share, as a joint venture investor, in the operating results of Competix, Inc.

Critical Accounting Policies
The discussion and analysis of our financial condition and results of operations is based on our unaudited consolidated condensed financial statements. The preparation of these interim financial statements requires management to make estimates and judgments that affect the reported amount of assets, liabilities, revenues and expenses. Actual results may differ from these estimates under different assumptions or conditions.

Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and potentially result in materially different results under different assumptions and conditions. Application of these policies is particularly important to the portrayal of our financial condition and results of operations. We consider the accounting policies below to be our critical accounting policies:

	•		revenue recognition;
	•		net realizable value of software;
	•		income taxes; and
	•		restructuring.

Our significant accounting policies, including the critical policies listed above, are described in the notes to the consolidated financial statements for the year ended December 31, 2001 included in our Annual Report on Form 10-K filed with the SEC.

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Historical Results of Operations

The following table sets forth the unaudited percentage of revenues represented by items in our unaudited consolidated condensed statements of operations for the periods presented.

Three Months Ended September 30, 2002 Compared to Three Months Ended September 30, 2001

Revenues
Revenues for the three months ended September 30, 2002 were $247.5 million, a decrease of $33.9 million, or 12.0%, compared to the same period in 2001. In our Federal Government Agencies market, revenue for the three months ended September 30, 2002 increased $9.0 million compared to the same period in 2001, reflecting, in part, our ability to capitalize on the increase in fiscal year-end spending in government agencies. Revenue in our Other Corporate Clients market increased $1.2 million, compared to the same period in 2001. All other target markets declined from the same period of the prior year as clients reduced or deferred their spending on information technology and consulting services due to the slowdown in the economy and the weak information technology market. Due to the global economic weakening in the telecommunications industry, our Communications, Media and Entertainment market experienced the most significant decline, accounting for 90.3% of the $33.9 million drop in revenues. For the three months ended September 30, 2002, the proportion of our total revenue derived from the public sector was 62.7%, an increase of 8.8%, from the same period in 2001. Approximately 85% of our work continues to come from clients with whom we have performed work previously.

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Compared to the same period in 2001, revenues from U.S. clients declined 9.9% to $212.2 million for the three months ended September 30, 2002, while revenues from international clients dropped 23.0% to $35.3 million. Revenues from international clients were derived from work with customers primarily in the Communications, Media and Entertainment and Financial Services Institutions target markets across Europe, Asia and the Pacific Rim. This decline internationally is consistent with the decline in those industries overall. Business with international clients represented 14.3% of our total revenues for the three months ended September 30, 2002, compared to 16.3% for the same period in 2001.

Operating Expenses
Total operating expenses before restructuring charges for the third quarter of 2002 were $230.1 million, a decrease of $31.6 million, or 12.1%, compared to operating expenses before restructuring in the same period in 2001. As a percentage of revenue, operating expenses before restructuring charges were 93.0% for both the three months ended September 30, 2002 and 2001.

Client Project
Client project expenses were $130.0 million for the three months ended September 30, 2002, a decrease of $29.6 million, or 18.5%, compared with the same period in 2001. Client project expenses declined due to the slowdown or conclusion of project work for customers. As a percentage of revenue, client project expenses decreased from 56.7% for the three months ended September 30, 2001 to 52.5% for the three months ended September 30, 2002. Approximately 2% of the 4.2% decrease is related to the recognition of approximately $6 million of revenues for the three months ended September 30, 2002, for which we had no current period client project expenses. Approximately another 1% of the 4.2% decrease in client project expenses as a percentage of revenue is related to our improved collections experience. An analysis of our accounts receivable as of September 30, 2002 concluded that the allowance for doubtful accounts was adequate to cover estimated unknown and known uncollectable accounts. Therefore, no bad debt expense was recorded in the third quarter of 2002, compared with $1.3 million in the third quarter of 2001. In addition, we estimate that our allowance for doubtful accounts is adequate to cover any potential exposure to unpaid accounts receivable relating to telecommunications companies that have seen declining financial performance since September 30, 2002.

Selling, General and Administrative
SG&A expenses were $78.7 million for the three months ended September 30, 2002, a decrease of $3.4 million, or 4.1%, compared with the same period in 2001. The decline was primarily attributable to reductions in incentive compensation and certain staff-related expenses resulting from our cost management efforts throughout 2001 and 2002. Increased business development expenses attributable to our investment in a dedicated, commission-based sales force offset the decline in other SG&A expenses. SG&A expenses as a percentage of revenue were 31.8% and 29.2% for the three month periods ended September 30, 2002 and 2001, respectively.