UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Form 10-K

(Mark One)

For the fiscal year ended March 31, 2004

Or

Commission File Number: 000-33283

THE ADVISORY BOARD COMPANY

202-266-5600
(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: Not applicable

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, par value $0.01 per share
(Title of class)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

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 the 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. x

Indicate by check mark if the registrant is an accelerated filer (as defined in rule 12b-2 of the Act). Yes x No o

Based upon the closing price of the registrant’s common stock as of September 30, 2003, the aggregate market value of the common stock held by non-affiliates of the registrant is $447,366,895*.

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: As of June 4, 2004, The Advisory Board Company had outstanding 17,690,143 shares of Common Stock, par value $0.01 per share.

DOCUMENTS INCORPORATED BY REFERENCE

List hereunder the following documents incorporated by reference and the Part of the Form 10-K into which the document is incorporated:

     None.

*

Solely for purposes of this calculation, all executive officers and directors of the registrant and all shareholders reporting beneficial ownership of more than 5% of the registrant’s common stock are considered to be affiliates.

A NOTE ABOUT FORWARD-LOOKING STATEMENTS

     We have made forward-looking statements in this Form 10-K, including the sections entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” that are based on our management’s beliefs and assumptions and on information currently available to our management. Forward-looking statements include the information concerning our possible or assumed results of operations, business strategies, financing plans, competitive position and potential growth opportunities. Forward-looking statements include all statements that are not historical facts and can be identified by the use of forward-looking terminology such as the words “believes,” “expects,” “anticipates,” “intends,” “plans,” “estimates” or similar expressions.

     Forward-looking statements involve risks, uncertainties and assumptions. Actual results may differ materially from those expressed in these forward-looking statements. You should not put undue reliance on any forward-looking statements. We do not have any intention or obligation to update forward-looking statements after we distribute this Form 10-K.

     You should understand that many important factors could cause our results to differ materially from those expressed in these forward-looking statements. Among the factors that could cause our future results to differ from those reflected in forward-looking statements are the risks discussed in this Form 10-K under the heading “Business-Risk Factors.”

     Our Internet website address is www.advisoryboardcompany.com. Our 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 are available free of charge through our website as soon as reasonably practicable after they are electronically filed with, or furnished to, the Securities and Exchange Commission.

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PART I

Item 1. Business.

Overview

     We provide best practices research and analysis to more than 2,300 hospitals, health systems, pharmaceutical and biotech companies, health care insurers and medical device companies in the United States, focusing on business strategy, operations and general management issues. Best practices research identifies, analyzes and describes specific management initiatives, strategies and processes that produce the best results in solving common problems or challenges. For a fixed annual fee, members of each program have access to an integrated set of services such as best practices research studies, executive education seminars, customized research briefs and web-based access to the program’s content database and decision support tools. Our member renewal rate for each of the last three fiscal years equaled or exceeded 87%, which we believe is a reflection of our members’ recognition of the value they derive from participating in our programs.

     Our business was founded in 1979 to provide best practices research and analysis across all industries. We launched our first health care best practices program in 1986. In August 2001, we were incorporated as a Delaware corporation and completed our initial public offering in November 2001. Since April 2000, we have increased the total number of programs we offer from 6 to 21, and have grown our sales force from 16 business development teams in April 2000 to 60 as of March 31, 2004. For the fiscal year ended March 31, 2004, our revenues grew to $121.8 million, up 21% from the prior year, and we reported income from operations of $28.5 million, with earnings per diluted share of $1.00. As of March 31, 2004, we had $204.0 million in total assets.

     Our membership-based model, in which members actively participate in our research and analysis, is central to our strategy. This model gives us privileged access to our members’ business practices, proprietary data and strategic plans and enables us to provide detailed best practices analyses on current industry issues. Each of our 21 programs targets the issues of a specific executive constituency or business function. We sell substantially all of our program memberships as one-year agreements.

     Each of our programs offers a standardized set of services, allowing us to spread our largely fixed program cost structure across our membership base of participating companies. This economic model enables us to increase our revenues and operating margin as we expand the membership base of our programs over time and, we believe, permits members to learn about industry best practices at a fraction of the cost of a customized analysis performed by a major consulting firm.

     Our membership includes some of the most prestigious health care institutions in the United States. As of March 31, 2004, 16 of the top 17 hospitals as ranked by U.S. News and World Report were members, including The Cleveland Clinic, Duke University Medical Center, Johns Hopkins Hospital, Massachusetts General Hospital and the UCLA Medical Center. Our membership also includes leading pharmaceutical and biotech companies, health care insurers and medical device companies, such as Johnson & Johnson, Medtronic, Merck and Wyeth Pharmaceuticals. Within these organizations, we serve a range of constituencies, including both the executive suite and the broader management team. Our programs currently reach more than 4,000 chief executive and chief operating officers and 40,000 senior executives, clinical leaders, department heads and product-line managers.

     Our Target Market — The Health Care Industry

     According to U.S. Department of Commerce statistics, the health care industry continues to grow rapidly. The Health Care Financing Administration estimates that spending in the United States for health care services was $1.7 trillion in 2003 and projects spending will grow at an annual rate of approximately 7% through 2013.

     Health care companies rely on professional information services firms to help them develop strategies and improve operations to remain competitive in the dynamic industry environment. Health care is an important vertical market within the consulting and corporate training and development segments of the overall professional information services industry. The market for health care professional information services includes spending on all forms of consulting, benchmarking data, education and training, and market research services.

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     We believe that the following characteristics of the health care industry make it especially suited for our business model of delivering professional information services regarding best practices on a standardized basis:

•		Common Industry-Wide Issues. Health care companies of all sizes face many of the same complex strategic, operational and management issues, including increasing revenues, reducing costs, overcoming labor shortages, managing clinical innovation, improving productivity, reengineering business processes, increasing clinical quality and complying with new government regulations. Because the delivery of health care services is based upon very complex, interrelated processes that involve many types of health care companies, there is widespread interest in and broad applicability of standardized programs that address the major challenges facing the industry.
•		Fragmented Industry. Our target market within the health care industry consists of over 4,000 current or potential members in the United States. This target market includes many health care providers that deliver health care services primarily on a local or regional basis. As a result of this fragmentation, best practices that are pioneered in local or regional markets are rarely widely known throughout the industry.
•		Willingness to Share Best Practices. We believe that health care companies have a relatively high propensity to share best practices. Many companies are non-profit organizations or compete in a limited geographic market and do not consider companies outside their market to be their competitors. In addition, the health care industry has a long tradition of disseminating information as part of ongoing medical research and education activities.
•		Limited Financial Resources. A cooperative membership model that provides access to best practices on a shared-cost basis appeals to many cost-conscious health care companies that otherwise lack the financial resources to commission a customized study to address their critical issues.

Business Strategy

     To capitalize on the favorable trends and characteristics of the health care industry, we will continue to develop and operate membership-based best practices programs that research and analyze the critical issues facing the health care industry and distribute our findings to our members in a standardized manner.

Capitalize on Membership-Based Business Model

     We believe our membership-based business model is key to our success. Our membership model enables us to target issues of relevance to a broad audience of health care companies and to draw on their experience to identify solutions. At the same time, our fixed fee economic model promotes frequent use of our programs and services by our members.

Focus on Best Practices Research for the Health Care Industry

     We focus on researching the best practices within the health care industry, which we believe is especially suited for our business model. Our focus on health care has enabled us to develop a membership that includes the most progressive and highly regarded health care institutions where many industry issues are first identified and where many of the best practices originate. We believe that health care companies will continue to demand access to proven best practices and solutions to common industry problems on a cost-effective, cross-industry basis and that our reputation and success to date has uniquely positioned us as a leading source for identifying, evaluating and communicating these evolving solutions.

Leverage Our Intellectual Capital and Relationships by Providing Best Practices Installation Support

     We are able to efficiently leverage research and relationships from our renewable programs to develop new programs offering best practices installation support, thereby generating additional revenues for a low incremental cost. Our research programs produce the best practices that we use to create new management tools and executive education modules. These tools are packaged and delivered as 12-month memberships for separate annual fees. Our research programs also provide a natural platform to identify member organizations seeking support in adopting the best practices profiled in our research to improve their own performance.

Scale Our Economic Model

     Our economic model enables us to add new members to all of our programs for a low incremental cost per member, thereby growing our revenues and improving our operating margin as we increase the membership base of our existing programs. A significant portion of every program’s cost structure for delivering the program’s standardized services is fixed and therefore does not vary with the number of members who participate in a program. By targeting topics that will be of interest to a broad range of members, we are able to spread the fixed costs associated with our programs over a large number of potential members.

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Continue Research and Analysis Excellence

     The quality of our research and analysis is a critical component of our success. Experienced program research directors are responsible for assuring that our research methodology is applied to all studies and that research quality is maintained across all programs. We are highly selective in our hiring, recruiting only the top graduates of the leading universities and graduate schools. We emphasize continual training of all employees in key areas, including industry analysis, economics, quantitative modeling, root-cause analysis and presentation skills.

Deliver Superior Value Proposition

     We believe that our programs offer a compelling price-value proposition to participating members. Our standardized programs and scalable economic model allow us to provide access to best practices from leading institutions at a fraction of the cost any major consulting firm would charge to perform a comparable customized analysis. Members use our best practices research to improve the effectiveness of their organizations, often resulting in increased productivity and reduced operating costs. We believe that our program prices generally represent a small percentage of the potential bottom-line improvement members can achieve by successfully implementing one or more of the dozens of best practices they receive as members of a particular program. Our member renewal rate for each of the last three fiscal years equaled or exceeded 87%, reflecting our members’ recognition of the value they derived from participating in our programs.

Growth Strategy

     Our growth strategy is to leverage our extensive membership, deep knowledge base of best practices and proven business formula to increase revenues and profitability.

Develop New Programs

     We will continue developing new programs to cross-sell to existing members and to attract new member institutions. We actively manage a pipeline of new program concepts and rigorously evaluate and prioritize all target opportunities using well-defined new program development criteria. We involve industry thought-leaders from progressive and well-known companies as advisors early on in our new program development process and typically convert a high percentage of our advisors into paying members prior to launching the program. We plan to launch three to four new programs per year for at least the next three years.

Cross-Sell Additional Programs to Existing Members

     Since April 2000, we have increased the number of programs we offer from 6 to 21, thereby significantly increasing our cross-sell opportunity. We actively cross-sell additional programs to our more than 2,300 members using a variety of tactics, including sales force visits, presentations at member meetings and announcements in our research publications and website.

Expand Focus on Health Care Operations

     Having largely provided research on strategic issues prior to fiscal 2001, we began creating programs focused on our members’ operational issues such as managing their workforce, increasing hospital throughput, and lowering costs. Health systems are under continual pressure to improve operations to lower costs and improve quality of care. The delivery of health care services is an inherently complex process spanning many departments within a health system, significantly increasing the number of executive constituencies and business functions we can target with new programs. We believe that a large portion of the money spent by health systems on external consulting, training and management support services goes towards solving operational problems. Health care providers face many of the same operational issues, creating new opportunities for our standardized best practices research, analysis and installation support. We currently offer ten programs that focus on operational issues.

Target Additional Sectors of the Health Care Industry

     In 1992 we launched our Health Care Industry Strategy program to educate pharmaceutical, biotech, health insurance and medical device companies on the major issues and challenges facing their largest customer segment, health care provider organizations. We plan to leverage the Health Care Industry Strategy program and the relationships we have developed with senior executives at leading pharmaceutical, biotech, health insurance and medical device companies to drive deeper and develop additional programs focused directly on the issues of these additional sectors of the health care industry. We will continue to target opportunities within these sectors that allow us to apply our business formula of launching programs that are largely fixed-cost in nature and offer a highly standardized solution.

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Our Membership

     We believe that our membership brings together the broadest and deepest group of health care organizations and professionals in the industry. As of March 31, 2004, our membership consisted of more than 2,300 hospitals, health systems, pharmaceutical and biotech companies, health care insurers and medical device and supply companies. Within these organizations, our programs also serve a range of constituencies, including both the executive suite and the broader management team. Our programs currently reach over 4,000 chief executive and chief operating officers and 40,000 senior executives, clinical leaders, department heads and product line managers. No one member accounted for more than 2% of revenues in any of the last three fiscal years.

     At the same time, we continually strive to involve some of the country’s most progressive health care companies in our membership. The participation of these members provides us with a window on the latest challenges confronting the health care industry and the most innovative best practices that we can share broadly throughout our membership. We serve 16 of the top 17 hospitals in the U.S. News and World Report 2002 America’s Best Hospitals ranking, 86 of the largest 100 health care delivery systems and 12 of the world’s 24 largest pharmaceutical companies were members.

     The following table sets forth information with respect to membership programs, members and renewals as of the dates shown:

(1)		For the year then ended. The percentage of member institutions at the beginning of a fiscal year that hold one or more memberships in any of our programs at the beginning of the next fiscal year, adjusted to reflect mergers, acquisitions or different affiliations of members that result in changes of control over individual institutions.
(2)		The aggregate annualized revenue attributed to all agreements in effect at a given point in time, without regard to the initial term or remaining duration of any such agreement.

Programs and Services

Programs

     We offer 21 distinct membership programs focused on identifying best-demonstrated management practices, critiquing widely-followed but ineffective practices, analyzing emerging trends within the health care industry, and supporting institutions’ efforts to adopt best practices to improve their own performance. Each year, our staff of research managers and analysts conducts thousands of interviews with health care industry executives on a large number of substantive areas, including:

•		health care industry strategy
•		health care marketing
•		revenue management and product line development
•		health system cost reduction and clinical reform
•		nursing recruitment, retention and productivity
•		hospital department operations
•		pharmaceuticals and medical device technology

     We focus senior management on important problems by providing an unbiased, objective analysis of best practices used by some of the most successful health care companies to solve those problems, and by providing tools to accelerate the adoption of best practices within our member institutions.

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     We believe our programs offer a cost-effective, time-efficient opportunity for senior executives to learn from the practices and experiences of other health care companies from around the country. We believe that member institutions can participate in and benefit from one of our programs for a fraction of the cost and time of proceeding independently either through an internal research project or by engaging a management consulting firm. At the same time, our program members receive a wide array of valuable, timely information derived from lessons learned from the industry’s most progressive participants. In fiscal 2004, we published 53 best practices research studies, provided executive education services to over 2,000 member companies reaching more than 40,000 executive and managerial participants, produced over 3,000 research briefs and delivered daily executive briefings via our password-protected website and email to over 30,000 executives.

     Each research program is run by a research director who is responsible for applying our standard research methodologies to produce best practices studies and for maintaining the quality of all program services. Relying on member steering sessions, member topic polls and one-on-one interviews with top industry executives, each research director identifies the most timely and important topics of shared member interest and sets the program’s research priorities in an annual agenda. The annual agenda is used to communicate potential best practices study topics and associated program services to participating members, although the actual studies and services delivered to members across the corresponding time period may vary from what is described in the agenda. A team of research analysts and instructors is dedicated to each program, collectively researching the topics on the program agenda, writing the best practices studies and providing all other program services.

     We currently offer 21 programs organized into two key practice areas, each of which targets a different executive constituency or business function. Our health care strategy programs serve CEOs, CFOs, board members, senior-most marketing and planning executives and major product line managers and focus on broad industry trends and business issues. Our health care operations programs serve executives and general managers operating key divisions and departments within health care companies and focus on operational issues such as process improvement, cost reduction, productivity and quality improvement. Within each practice area, we offer one or more platform programs focusing on enterprise-wide strategic or operational issues and serving senior executives within the organization, as well as more targeted programs which focus on specific strategic and operational issues and serve executives deeper within a member company.

Services

     Each program charges a separate annual membership fee. The program fee is fixed for the duration of the membership agreement and entitles participating members to access all of a program’s membership services. The specific membership services vary by program and change over time as services are periodically added or removed. Our program services primarily include best practices research studies, executive education, daily on-line executive briefings, original executive inquiry service, best practices installation support and on-line access to proprietary content databases. Health care companies can only access our services within a program if they are members of the relevant program. A description of these services follows:

     Best Practices Research Studies

     Each best practices research study generally addresses a specific strategic challenge, operational issue or management concern. In fiscal 2004, we published 53 best practices research studies. Each research program typically publishes two to five best practices research studies annually. We design each study to present the conclusions and supporting best practices in a graphical format, enabling the intended audience to quickly assimilate the 100 to 250 pages of research content.

     Each study comprises two principal elements — the essay and the best practices. The essay consists of a series of observations and supporting evidence that frames the problems or business issues, helping to communicate the need for change or action to the membership at large. Each study typically contains up to 20 best practices, and each best practice generally features a ten- to 15-page case study of narrative text, graphics and supporting analytical detail describing how the best practice works, how it was implemented and the best practice’s costs and benefits. In many cases, we assign pseudonyms to protect the confidentiality of proprietary information outlined in a study. Consistent application of our research methodology across all programs enables us to increase the number of our programs while maintaining research quality.

     Every stage in the research and writing of a best practices study is highly standardized — from topic selection to secondary research, primary research and interviewing, root cause problem analysis, best practices analysis, best practices construction and report writing. All research staff members receive extensive training in our proprietary research methodologies. In addition, program research directors and their teams can call upon our Chief Research Officer to provide assistance in conducting economic analyses, screening best practices, editing reports and creating best practices installation support tools.

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     Our best practices research and the resulting reports provide us with the intellectual capital that supports other services that we offer member companies. In the course of preparing a best practices study, a research team typically will review thousands of pages of business and academic literature to ground their understanding of the issues. Then they will conduct hundreds of in-depth interviews with health care companies, industry experts, consultants and academic leaders to identify and evaluate specific business strategies and management practices. During the course of its research, a team generally evaluates dozens of management practices to isolate those practices worthy of potential implementation by members, separating out demonstrated and proven business practices from those, whether popular or conventional, that largely have failed.

     Executive Education

     Relying on our proprietary best practices research, we deliver an executive education curriculum to member institutions nationwide. We offer executive education services through two channels — general membership meetings and presentations or facilitated discussions conducted on-site at member organizations. In either case, we use lively, interactive discussions to provide a deeper understanding of the best practices covered in our published reports. In fiscal 2004, we delivered executive education services to over 2,000 member organizations, reaching more than 40,000 executive participants. The executive education services are also an important lead generator for cross-selling new programs to existing members.

     In certain programs, we host general membership meetings across the country, presenting the most important research findings from our annual program agendas to groups of 20 to 200 members. In fiscal 2004, we hosted more than 100 member meetings in the United States, and one meeting each in Australia and the United Kingdom.

     Certain programs may also provide on-site executive education seminars and facilitated discussions as part of their membership services. Members of these programs can request to schedule an Advisory Board faculty member to travel to their organization to deliver executive education modules, typically one- to four-hour lectures, case studies or facilitated working group discussions, of the member’s choice. In fiscal 2004, we conducted over 3,000 on-site seminars at member organizations.

     We deploy a staff of more than 30 full-time and part-time faculty who conduct the on-site education seminars. We update our library of executive education modules throughout the year as we translate new best practices research into executive education content.

     Executive Briefings

     To provide our member organizations with industry news and best practices on a more frequent basis than is possible with our longer reports, certain programs produce executive briefings that provide short, comprehensive summaries of our research findings, best practices, benchmark data and industry news. We provide two types of executive briefings, each available to our members through our password-protected website and by email.

Briefings. Each day, our editorial team reviews the nation’s health care news drawn from over 250 sources — including daily newspapers, news wires, magazines, clinical journals and city business journals — and summarizes relevant industry business and clinical news in a five- to ten-page report. We produce two versions of our Briefings, a daily briefing targeting health care executives, and a bi-weekly briefing for physician leaders.

Executive Watches. Our Executive Watch reports provide best practices, benchmark data and industry news for specific executive constituencies within health care companies. We currently produce six Executive Watch reports for the following executive constituencies: chief financial officers; chief nursing officers; senior marketing and planning executives; chief medical officers; cardiac administrators; and oncology administrators. Our Executive Watch reports are updated throughout the week.

     Original Executive Inquiry Service

     Certain programs permit members to assign short-answer, customized research requests to our research staff through our original executive inquiry service. Depending on the need of the requesting member, completed projects may include literature searches, vendor profiles, benchmark data or original primary research.

     Original executive inquiry projects generally take 5 to 15 days to complete, depending on the depth of the information request and the type of research product desired. Our most in-depth research briefs generally contain two to four case study profiles of interviewed institutions, highlighting significant trends, successful practices and comparative responses to a range of questions. After we have completed and delivered the written brief to the requesting member, we make many of these briefs accessible to other members of the same program through our proprietary database.

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     We believe that the original executive inquiry service builds our proprietary database and further encourages members to view us as a reliable and effective resource for best practices research.

     Best Practices Installation Support

     Seven of our programs provide members with support in installing the best practices profiled in our research studies within their own organizations. We offer members a standardized package of management tools supplemented by approximately five on-site sessions to educate relevant executives and line managers in their use. The majority of management tools and on-site curriculum derive from research content, data and documents gathered in the research process used to produce our best practices research studies, enabling us to create best practices installation modules quickly and for a low incremental cost. Our installation support includes both the management tools and the associated on-site sessions and is packaged and delivered to each member typically over a 12-month period.

     We offer two types of management tools. The first type is diagnostic tools, which include self-assessment tests, data workbooks and discussion guides to help members select those best practices most likely to have a large impact within their own organizations. The second type is installation tools, which include task checklists, process flow diagrams, results-reporting templates, project plans, job descriptions, budgets, management reports, forms, surveys, policies and procedures, organization charts, memos and benchmark data, designed to help members implement particular best practices. By using our installation tools, members benefit from work already completed by other members, saving them time, cost and effort by providing tools proven successful in installing a best practice.

     On-site education sessions are designed to help members organize, structure and manage an internal project team tasked with installing one or more best practices. Our on-site sessions help members reach internal consensus and develop action plans for installing best practices and tracking results.

     Proprietary Database and On-line Services

     Each research program maintains a password-protected proprietary electronic database of best practices and, in most cases, on-line quantitative benchmarking and survey data accessible only to members of the research program. We continually update our databases with new management practices, management tools, quantitative performance data and related information supplied by our members and derived by our researchers. Through password-protected Web sites, members of each program may commission customized research briefs, search and access the electronic library of research studies and graphics, review executive education modules, access our proprietary decision support tools and meeting schedules and communicate with our staff and other members. We include all information and graphics generated in best practices research studies and customized research briefs in the databases and make them accessible to member executives and our staff.

     Since 1996, we have been offering our members Internet access to selected research content and other services in a digital format through a password-protected Internet site. The Internet has become an efficient and effective means for us to interact with our members and to deliver our products and services to our members and currently is our largest distribution channel. By providing a wide array of tools and content to our members online, we achieve deep penetration into each of our member organizations, allowing a broader group of executives, managers and front-line leaders access to critical support required for both their daily and more strategic decisions. As of March 31, 2004, our proprietary databases contained more than 30,000 profiles of management practices.

Pricing

     We sell substantially all memberships in our programs as one-year agreements. Each program charges a separate fixed annual membership fee. Annual fees vary by program based on the target executive constituency and the specific combination of services provided to participating members. Annual fees for programs that offer best practices installation support generally are higher than annual fees for programs that do not offer this service. The annual fees paid by members within the same program also vary based on the size of the member institution and the total number of program memberships the member purchases. Membership fees may also be lower for the initial members of new programs. Membership agreements are generally paid in full within three months of the start of the membership period. All of our memberships also provide a pro rata service guarantee, which allows members to request a refund of the unexpired portion of their current year fee, pro rated from the start of the membership period.

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Sales and Marketing

     At March 31, 2004, our sales force consisted of 60 new business development teams that are responsible for selling new memberships to assigned geographic market and program segments. Our two-person new business development teams sell programs to new clients as well as cross-sell programs to existing members of other programs. We also maintain approximately 25 separate member services teams of one to two people that are responsible for servicing and renewing existing memberships.

     The separation of responsibility for new membership sales and membership renewals reflects the varying difficulty and cost of the respective functions. New business development representatives are compensated with a base salary and variable, goal-based incentive bonuses and travel on average 60% of the time, conducting face-to-face meetings with senior executives at current and prospective member institutions. Member services representatives assume more of an in-house coordinating role, conducting most of their responsibilities over the telephone.

Competition

     We are not aware of any other entity that enables health care organizations to study as broad a range of best management practices for fixed annual fees. We compete indirectly against other professional information services providers, including consulting firms, market research firms and specialized providers of educational and training services. Other entities, such as state and national trade associations, group purchasing organizations, non-profit think-tanks and database companies, also offer research, consulting and education services to health care companies.

     We believe that the principal competitive factors in our market include quality and timeliness of research and analysis, applicability and efficacy of recommendations, reliable delivery, depth and quality of the membership network, ability to meet changing customer needs, service and affordability. We believe we compete favorably with respect to each of these factors.

     The Corporate Executive Board Company provides membership-based programs on a cross-industry basis that are similar to the types of programs that we sell to health care companies. We have a noncompetition agreement with The Corporate Executive Board Company that extends through January 1, 2007, which generally prohibits The Corporate Executive Board Company from selling programs to health care providers. This agreement also prohibits The Corporate Executive Board Company from selling programs to other types of health care organizations unless the programs address issues of a general business nature and are principally sold to companies and institutions not in the health care industry. This noncompetition agreement generally prohibits us from selling our programs to organizations principally engaged in businesses other than health care.

Employees

     At March 31, 2004, we employed approximately 575 persons, all of whom are located at our headquarters in Washington, DC. None of our employees are represented by a collective bargaining arrangement. We believe that our relations with our employees are favorable.

     We believe strongly in a culture of meritocracy, rewarding key contributors with opportunities for rapid professional growth and advancement as well as competitive compensation. Training is a critical job component for all of our employees, including industry analysis, economics, quantitative modeling, root-cause analysis and presentation skills.

Risk Factors

     In addition to the other information in this Form 10-K, you should consider carefully the following risk factors in evaluating us and our business.

Our business is limited to the health care industry

     We derive substantially all of our revenues from clients in the health care industry and, until January 1, 2007, are prohibited by an agreement with The Corporate Executive Board Company from selling our membership-based programs to companies and institutions principally engaged in businesses other than health care.

     As a result, our business, financial condition and results of operations depend upon conditions affecting the health care industry generally and hospitals and health systems particularly. Our ability to grow will depend upon the growth of the health care industry generally as well as our ability to increase the number of programs and services that we sell to our members. Factors that adversely affect the revenues and cash flows of the health care industry, including operating results, capital requirements, regulation and litigation, can be expected to reduce the funds available for purchase of our products and services.

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We depend on renewals of our membership-based services

     We derive most of our revenues from renewable memberships in our discrete annual programs. Our prospects therefore depend on our ability to achieve and sustain high renewal rates on existing programs and to enter into new membership arrangements. Failure to achieve high renewal rates would have a material adverse effect on our business, financial condition and operating results. Our success in securing renewals depends upon our ability to deliver consistent, high-quality and timely research and analysis with respect to issues, developments and trends that members view as important. We cannot assure you that we will be able to sustain the level of performance necessary to achieve a high rate of renewals and, as a result, we cannot assure you that we will be able to increase or even maintain our revenues.

Programs we launch in the future may not be successful

     Our future success depends on our ability to develop new programs that serve specific health care constituencies and the changing needs of our current and prospective members for information, analysis and advice. We cannot assure you that our efforts to introduce new programs will be successful. Delays or failures during development or implementation, or lack of market acceptance, of new programs could have a material adverse effect on our business. Our business would be materially adversely affected if we were unable to develop and introduce successful new programs or other new services, or to make enhancements to existing programs, in a timely manner in response to member requirements.

     We may experience difficulties sustaining a membership base in our installation support programs

     Seven of our programs offer best practices installation support. These programs provide 12-month memberships to help participants accelerate the installation of best practices profiled in our research studies. Memberships in these programs are not individually renewable. In order to maintain our annual revenues and contract value from these programs, we will have to enroll new members each year as other members complete their 12-month program terms. We cannot assure you that we will be successful in selling these programs in the future. Lack of continued market acceptance of these programs could have a material adverse effect on our business.

We may experience difficulties in anticipating market trends

     Our future success depends upon our ability to anticipate changing market trends and to adapt our research and analysis to meet the changing information and installation support needs of our members. We may not be able to provide helpful and timely research and analysis of developments and trends in a manner that meets market needs. Any such failure would have a material adverse effect on our business. The health care industry undergoes frequent and often dramatic changes, including the introduction of new and the obsolescence of old payments systems, changing regulatory environments, shifting strategies and market positions of major industry participants and changing objectives and expectations of health care consumers. This environment of rapid and continuous change presents significant challenges to our ability to provide our members with current and timely research, analysis and installation support on issues and topics of importance. Meeting these challenges requires the commitment of substantial resources. We cannot assure you that we will be able to meet these challenges.

Consolidation in the health care industry could adversely affect our business

     Many health care providers, insurers, medical device companies and pharmaceutical companies have consolidated to create larger organizations. Further consolidation could reduce the number of current and potential clients for our services. A reduction in the size of our target market could have a material adverse effect on our business.

     The larger organizations resulting from consolidation in the health care industry could have greater bargaining power, which could affect the current pricing structure for our services. In addition, group purchasing organizations and managed care organizations could increase pressure on providers of health care related services, like ourselves, to reduce prices. Our failure to maintain adequate pricing levels could have a material adverse effect on our business.

We must attract and retain a significant number of highly skilled employees

     Our future success depends upon our ability to hire, train, motivate and retain a significant number of highly skilled employees, particularly research analysts and sales and marketing staff. Our inability to do so would have a material adverse effect on our business. We have experienced, and expect to continue to experience, intense competition for professional personnel from management consulting firms and other producers of research and analysis services. Many of these firms have substantially greater financial resources than we do to attract and compensate qualified personnel. We cannot assure you that we will be successful in attracting a sufficient number of highly skilled employees in the future, or that we will be successful in training, motivating and retaining the employees we are able to hire.

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Potential liability claims may adversely affect our business

     Our services, which involve recommendations and advice to health care providers regarding complex business and operational processes, regulatory and compliance issues and labor practices, may give rise to liability claims by our members or by third parties who bring claims against our members and us. Health care providers increasingly are the subject of litigation, and we cannot assure you that we would not also be the subject of such litigation based on our advice and services. A successful liability claim brought against us may adversely affect our reputation in the health care industry and could have a material adverse effect on our business, financial condition and results of operations. We cannot assure you that we would have adequate insurance coverage for claims against us.

     Cost containment pressures on health care providers may adversely affect our business

     Health care providers have come under increasing pressure to contain operating costs in response to changes in reimbursement rates and increases in labor costs driven by workforce shortages. Health care financing entities, such as Medicare, Medicaid and private health plans, periodically adjust reimbursement rates to health care providers in response to changes in government legislation or market pressure to slow the growth of health care costs. As a result, health care providers may pressure professional information services companies to lower the cost of the services they provide. Our failure to maintain our revenues or operating margin could have a material adverse effect on our business.

     The expiration of our noncompetition agreement with The Corporate Executive Board Company may adversely affect our business

     We have a noncompetition agreement with The Corporate Executive Board Company which generally prohibits The Corporate Executive Board Company from selling any membership-based products and services to health care providers. Additionally, The Corporate Executive Board Company is prohibited from selling such products and services to other types of health care organizations unless the products and services are of a general business nature and are principally sold to companies and institutions not in the health care industry. This agreement ends on January 1, 2007. After that date, The Corporate Executive Board Company may sell membership-based products and services in direct competition with us. Direct competition with The Corporate Executive Board Company may have a material adverse effect on our revenues.

Regulatory change in our market may adversely affect our business

     Changing political, economic and regulatory influences on health care providers could have a material adverse effect on our business, financial condition and results of operations. These influences affect the purchasing practices and operations of health care organizations. Federal and state legislatures periodically have considered programs to reform or amend the United States health care system at both the federal and state level. These efforts could adversely affect our members by resulting in lower reimbursement rates for health care providers, which could change the environment in which providers operate and reduce the willingness or ability of our members to renew or pay for our products and services.

We may be unable to protect our intellectual property rights

     We rely on copyright laws, as well as nondisclosure and confidentiality arrangements, to protect our proprietary rights in our products and services. We cannot assure you that the steps we have taken to protect our intellectual property rights will be adequate to deter misappropriation of our rights or that we will be able to detect unauthorized uses and take timely and effective steps to enforce our rights. If unauthorized uses of our proprietary products and services were to occur, we might be required to engage in costly and time-consuming litigation to enforce our rights. We cannot assure you that we would prevail in such litigation. If others were able to use our intellectual property, our ability to charge fees for our services would be adversely affected.

We may be exposed to litigation related to content

     As a publisher and distributor of original research and analysis and user of licensed third-party content, we face potential liability for defamation, negligence and copyright and trademark infringement. Any such litigation, whether or not resulting in a judgment against us, could have a material adverse effect on our business, financial condition and results of operations. Third-party content includes information created or provided by information services organizations and consultants whom we retain and may be delivered in writing, over the Internet or orally to our members.

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We may face damage to our professional reputation or legal liability if our clients are not satisfied with our services

     As a provider of best practices research and analysis, our professional reputation is an important factor in attracting and retaining our members and in building relationships with the progressive health care companies that supply many of the best practices we feature in our research. If members were to become dissatisfied with the quality of our best practices research and the services we provide, our professional reputation could be damaged. If we fail to meet our contractual obligations, we could be subject to legal liability or loss of client relationships.

We may not be able to fully realize our deferred tax asset

     For tax purposes, we have deferred income taxes consisting primarily of net operating loss carry forwards for regular federal and state income tax purposes generated from the exercise of common stock options. In estimating future tax consequences, Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes” generally considers all expected future events in the determination and evaluation of deferred tax assets and liabilities. We believe that our future taxable income will be sufficient for the full realization of the deferred income taxes. However, Statement of Financial Accounting Standards No. 109 does not consider the effect of future changes in existing tax laws or changes in existing tax rates in the determination and evaluation of deferred tax assets and liabilities until the new tax laws or rates are enacted. If the tax laws or rates are changed, if we are approved as a Qualified High Technology Company for Washington, DC taxes, or if our future taxable income is less than what we believe it will be, we may not be able to fully realize our deferred tax asset.

     There may be risks related to our status as a Qualified High Technology Company.

     The Office of Tax and Revenue of the Government of the District of Columbia (the “Office of Tax and Revenue”) has adopted regulations in accordance with the New E-Conomy Transformation Act of 2000 (the “Act”) that modify the income and franchise tax, sales and use tax and personal property tax regulations, effective April 2001. Specifically, the regulations provide certain credits, exemptions and other benefits to a Qualified High Technology Company (“QHTC”). We have performed an analysis to support our position that we meet the definition of a QHTC under provisions of the Act. As a QHTC, our Washington, D.C. statutory income tax rate will be 0.0% for five years and 6.0% thereafter, versus 9.975% prior to this qualification, and we are eligible for certain Washington, D.C. income tax credits and other benefits. We have filed a claim for refund of sales and use taxes previously paid to the Office of Tax and Revenue and are currently in discussions with the Office of Tax and Revenue regarding our claim. We cannot assure you that the Office of Tax and Revenue will accept our application and approve us for status as a QHTC under the Act, or that our business activities and operations will continue to qualify as QHTC activities under the Act in the future.

Item 2. Properties.

     The lease on our former headquarters facility expired May 31, 2004. As of June 1, 2004, our headquarters are located in approximately 106,000 square feet of office space in Washington, DC. The facilities accommodate research, marketing and sales, information technology, administration, graphic services and operations personnel. We lease our office facilities, and the lease expires in June 2019. The terms of the lease on the new facility contain provisions for rental escalation and we are required to pay our portion of executory costs such as taxes and insurance. We are also obligated to take additional expansion space in the building pursuant to the lease. We believe that our facilities are adequate for our current needs and that additional facilities are available for lease to meet any future needs.

Item 3. Legal Proceedings.

     From time to time, we are subject to ordinary routine litigation incidental to our normal business operations. We are not currently a party to, and our property is not subject to, any material legal proceedings.

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Item 4. Submission of Matters to a Vote of Security Holders.

     The Annual Meeting of Stockholders of The Advisory Board Company was held on February 25, 2004. The following is a tabulation of the voting on the proposal presented at the Annual Meeting of Stockholders:

Proposal No. 1 — Election of Directors

     The directors elected pursuant to the foregoing proposal constitute all of the members of our board of directors.

Proposal No. 2 — Appointment of Ernst & Young, LLP as Independent Auditors for the Fiscal Year Ending March 31, 2004.

     The appointment of Ernst & Young LLP was ratified.

Next Annual Meeting and Stockholder Proposals

     The next annual meeting of stockholders was originally scheduled for August 25, 2004. We are changing the date of the annual meeting of stockholders to November 15, 2004, at 10:00 a.m. Eastern Standard Time, at our offices at 2445 M Street, NW, Washington, DC, 20037. Under Securities and Exchange Commission rules, any stockholder who intends to present a proposal at the next annual meeting of stockholders must submit the proposal to us at our principal executive offices, pursuant to Rule 14a-8 under the Securities Exchange Act of 1934, no later than July 22, 2004, which is a reasonable time before we begin to print and mail our proxy materials, and must satisfy the other requirements of Rule 14a-8 under the Securities Exchange Act of 1934 in order for the proposal to be considered for inclusion in our Proxy Statement and Proxy Card for that meeting. Any stockholder who wishes to bring a proposal before our next annual meeting of stockholders, but does not wish to include it in our proxy materials, or wishes to nominate one or more persons to serve as Directors, must provide written notice of the proposal to our Secretary at our principal executive offices after August 6, 2004, and before August 17, 2004, and must satisfy the requirements of our Bylaws. If a stockholder making such a proposal does not also satisfy the requirements of Rule 14a-4(c) under the Securities Exchange Act of 1934, we may exercise discretionary voting authority over proxies we solicit in determining how to vote on the proposal.

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PART II

Item 5. Market for Registrant’s Common Equity and Related Stockholder Matters, Issuer Purchases of Equity Securities.

     Our common stock has been quoted on the Nasdaq National Market under the symbol “ABCO” since our initial public offering on November 12, 2001. As of June 4, 2004, there were eight stockholders of record of the common stock. The following table sets forth, for the periods indicated, the high and low sales prices per share of our common stock as reported on the Nasdaq National Market.

     We have not declared or paid any cash dividend on our common stock since the closing of our initial public offering. We do not anticipate declaring or paying any cash dividends in the foreseeable future. The timing and amount of future cash dividends, if any, would be determined by our Board of Directors and would depend upon our earnings, financial condition and cash requirements.

     The remaining information called for by this item relating to “Securities Authorized for Issuance Under Equity Compensation Plans” is included in Item 12 of Part III of this Form 10-K.

Issuer Purchases of Equity Securities

     In January 2004, our Board of Directors authorized the repurchase of up to $50 million of our common stock in the open market and privately negotiated transactions subject to market conditions. No minimum number of shares has been fixed.

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Item 6. Selected Financial Data

     The following table sets forth selected financial and operating data. The selected financial data presented below as of March 31, 2000 and 2001, and for the two fiscal years in the period ended March 31, 2001, have been derived from our financial statements which have been audited by Arthur Andersen LLP, independent public accountants. The selected financial data presented below as of March 31, 2002, 2003 and 2004 and for the three fiscal years in the period ended March 31, 2004, have been derived from our financial statements which have been audited by Ernst & Young LLP, independent auditors. You should read the selected financial data presented below in conjunction with our financial statements, the notes to our financial statements and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” appearing elsewhere in this Form 10-K.

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Overview

     We provide best practices research and analysis across the health care industry. Best practices research identifies and analyzes specific management initiatives, processes and strategies that have been determined to produce the best results in solving common business problems or challenges. Members of each program are typically charged a fixed annual fee and have access to an integrated set of services, including best practices research studies, executive education seminars, customized research briefs and web-based access to the program’s content database and decision support tools.

     Our revenues grew 21.0% in fiscal 2004 over fiscal 2003, and grew 24.4% in fiscal 2003 over fiscal 2002. We increased our contract value by 17.0% at March 31, 2004 over March 31, 2003, and by 24.0% at March 31, 2003 over March 31, 2002. We define contract value as the aggregate annualized revenue attributed to all membership agreements in effect at a given point in time, without regard to the initial term or remaining duration of any such agreement.

     Memberships in each of our fourteen best practices research programs are renewable at the end of their one-year membership contracts. Our remaining programs provide best practices installation support. These 12-month program memberships help participants accelerate the adoption of best practices profiled in our research studies, and are therefore not individually renewable. Renewable programs generated more than 80% of our revenues in fiscal 2004, with the balance of our revenues generated by programs providing installation support.

     Costs associated with a new program initially increase more rapidly than revenues following introduction of the program because revenues associated with the new program are recognized ratably over the membership year while costs are expensed as incurred. Because we offer a standardized set of services, however, our program cost structure is relatively fixed and the incremental cost to serve an additional member is low. In fiscal 2004, our income from operations was $28.5 million, compared to $23.8 million in fiscal 2003.

     Our operating costs and expenses consist of cost of services, member relations and marketing, general and administrative expenses and depreciation. Cost of services represents the costs associated with the production and delivery of our products and services. Member relations and marketing expenses include the costs of acquiring new members and renewing existing members. General and administrative expenses include the costs of human resources and recruiting, finance and accounting, management information systems, facilities management, new program development and other administrative functions.

     We completed our initial public offering in November 2001. As a private company, we entered into the following arrangements which were discontinued in connection with our initial public offering. Accordingly, we believe the effect of these items on our historical financial statements are not indicative of future results.

•		We entered into special equity-based compensation arrangements with key employees. These arrangements were predominantly the repurchase of stock options and a special bonus paid to optionholders in the absence of a public market for our stock. Since our initial public offering, we have not entered, and do not anticipate that in the future we will enter into any special compensation arrangements, although we incurred charges of $366,000 in fiscal 2003 with respect to arrangements entered into prior to our initial public offering.
•		We paid the affiliate company charge to DGB Enterprises, Inc., a corporation created by our former principal stockholder in 1997 to manage his various business interests, for strategic direction and oversight. As of October 1, 2001, our newly constituted Board of Directors began to provide this strategic direction and oversight and, consequently, we no longer pay the affiliate company charge.

     Prior to our initial public offering, we were treated as an S corporation for federal income tax purposes. As an S corporation, our taxable income or loss flowed through to, and was reportable by, our stockholders. Accordingly, we did not make any provision for federal income taxes in our financial statements for periods ending prior to the closing of our initial public offering. In conjunction with our initial public offering, our S corporation status terminated and we became subject to federal income taxes at prevailing corporate rates. The impact of this change resulted in a benefit for income taxes of $1.6 million during the three months ended December 31, 2001.

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Results of Operations

     The following table shows statement of income data expressed as a percentage of revenues for the periods indicated.

Fiscal years ended March 31, 2002, 2003 and 2004

     Revenues. Total revenues increased 24.4% from $81.0 million in fiscal 2002 to $100.7 million in fiscal 2003, and increased 21.0% to $121.8 million in fiscal 2004. The increase in revenues was primarily due to the introduction and expansion of new programs, cross-selling existing programs to existing members, and, to a lesser degree, sales to new member organizations and price increases. We offered 15 membership programs as of March 31, 2002, 18 as of March 31, 2003 and 21 as of March 31, 2004. Our contract value increased 24.0% from $86.1 million at March 31, 2002 to $106.7 million at March 31, 2003, and increased 17.0% to $124.9 million at March 31, 2004. We define contract value as the aggregate annualized revenue attributed to all membership agreements in effect at a given point in time, without regard to the initial term or remaining duration of any such agreement.

     Cost of services. Cost of services increased 12.0% from $37.1 million, or 45.9% of revenues, in fiscal 2002, to $41.6 million, or 41.3% of revenues, in fiscal 2003 and increased 20.6% to $50.2 million, or 41.2% of revenues in fiscal 2004. Costs associated with a new program initially increase more rapidly than revenues following introduction of the program because revenues associated with the new program are recognized ratably over the membership year while costs are expensed as incurred. Because we offer a standardized set of services, our program cost structure is relatively fixed and the incremental cost to serve an additional member is low. Consequently, while cost of services increased since fiscal 2002, it has decreased as a percentage of revenues.

     Member relations and marketing. Member relations and marketing expense increased 23.2% from $16.1 million or 19.9% of revenues in fiscal 2002 to $19.8 million, or 19.7% of revenues, in fiscal 2003, and increased 24.0% to $24.6 million, or 20.2% of revenues, in fiscal 2004. The increase in member relations and marketing expense was primarily due to an increase in sales staff and related costs associated with the introduction of new programs, as well as an increase in member relations personnel and related costs to serve the expanding membership base.

     General and administrative. General and administrative expense increased from $10.7 million, or 13.2% of revenues, in fiscal 2002 to $12.5 million, or 12.4% of revenues, in fiscal 2003, and increased to $15.4 million, or 12.7% of revenues, in fiscal 2004 with the development of new programs and the expansion of several administrative functions. The decrease as a percent of revenues in fiscal 2003 reflects the leveraging of resources across our larger revenue base. The increase in fiscal 2004 reflects increased investment in recruiting and hiring efforts in the member relations and new product development areas. General and administrative expense includes approximately $1.2 million, $0.7 million and $1.0 million in fiscal 2002, 2003 and 2004, respectively, of net charges from DGB Enterprises, Inc. for expenses related to management services, shared space and facilities and certain administrative functions. We believe these charges approximate the expense which would have been incurred had we provided the equivalent services internally. See note 9 to our financial statements for a detailed description of the administrative services agreement with DGB Enterprises, Inc.

     Depreciation. Depreciation expense decreased from $2.0 million, or 2.5% of revenues in fiscal 2002, to $1.8 million, or 1.8% of revenues in fiscal 2003, and decreased to $1.4 million, or 1.2% of revenues in fiscal 2004. The decrease in fiscal 2003 was due to lower capital expenditures in fiscal 2002 and fiscal 2003 as compared to prior years. In fiscal 2004, we incurred construction costs in connection with our move to our new headquarters facility and depreciation expense may increase in future periods as a result.

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     Special compensation and stock option related expenses. Special compensation and stock option related expenses decreased from $1.5 million in fiscal 2002 to $1.1 million in fiscal 2003, and increased to $1.7 million in fiscal 2004. Since our initial public offering, we have not entered into, and we do not anticipate that we will enter in the future, any special compensation arrangements. See note 11 to our financial statements for a detailed description of these arrangements. In fiscal 2003 and 2004, we recognized approximately $781,000 and $1.7 million in compensation expense reflecting additional Federal Insurance Corporation Act (FICA) taxes as a result of the taxable income that employees recognized upon the exercise of common stock options.

     Affiliate company charge. Affiliate company charge was $2.7 million in fiscal 2002 and as of October 1, 2001, we no longer pay the affiliate company charge. See note 9 to our financial statements for more information regarding this charge.

     Interest income. Interest income increased $2.9 million in fiscal 2004, from $1.0 million in fiscal 2003 and $453,000 in fiscal 2002. The growth was principally from income associated with the increased levels of cash, cash equivalents and marketable securities. Cash, cash equivalents and marketable securities increased as a result of cash flows from operating activities and cash flows from financing activities as further discussed in the liquidity and capital resources section below.

     Provision for income taxes. We recorded a provision for income taxes of $12.7 million, $10.4 million and $7.1 million in fiscal 2004, 2003 and 2002, respectively. Our effective income tax rate decreased to 40.5% as of January 1, 2003 from 42.5% primarily due to an increase in the amount of tax-exempt interest income earned on our portfolio of cash and cash equivalents and marketable securities and, to a lesser extent, changes in states where income was generated.

     We will amend our 2003 Washington, DC income tax return to file as a Qualified High Technology Company. If approved, our Washington, DC income tax rate would be reduced to 0.0% and we would incur a noncash charge to earnings of approximately $5.8 million, representing the impact on our existing deferred tax asset of lowering the Washington, DC income tax rate. For further information please see Note 7 to our consolidated financial statements included elsewhere in this Form 10-K.

Liquidity and Capital Resources

     Cash flows from operating activities. Program memberships are generally payable by members at the beginning of the contract term. The combination of revenue growth and advance payment of memberships typically results in operating activities generating net positive cash flows on an annual basis. Net cash flows provided by operating activities were $19.9 million in fiscal 2002, $44.5 million in fiscal 2003 and $39.7 million in fiscal 2004. We had approximately $139.8 million in cash and cash equivalents and marketable securities at March 31, 2004. We expect that these funds and expected net positive cash flows from operations will satisfy working capital, financing activities and capital expenditure requirements for at least the next 12 months.

     Cash flows from investing activities. Net cash flows used in investing activities during fiscal 2002 were $0.9 million, consisting of purchases of property and equipment. Net cash flows used in investing activities in fiscal 2003 were $57.0 million, consisting of purchases of marketable securities of $56.5 million and purchases of property and equipment of $0.5 million. We used net cash flows in investing activities in fiscal 2004 of $46.5 million, consisting of purchases of marketable securities of $54.7 million offset by $13.4 million in proceeds on the redemption of marketable securities and purchases of property and equipment of $5.2 million, which includes approximately $4.6 million of expenditures relating to our new headquarters facility discussed below.

     Cash flows from financing activities. In fiscal 2002, we distributed $15.9 million to our pre-IPO stockholders, consisting of $13.0 million of cash and $2.9 million of offering costs and other cash distributions we paid in conjunction with our initial public offering. We generated $21.8 million and $14.9 million in cash from financing activities in fiscal 2003 and 2004, respectively, of which $21.5 million and $26.8 million, respectively, was from the receipt of cash for the exercise of stock options in conjunction with sales of our common stock by our employees. Also in fiscal 2003 and 2004, we received approximately $351,000 and $331,000, respectively, in proceeds from the issuance of common stock under our employee stock purchase plan. In January 2004, our Board of Directors authorized a share repurchase of up to $50 million of our common stock, and as of March 31, 2004, we had repurchased 349,320 shares of our common stock at a total cost of approximately $12.2 million.

     The lease on our former headquarters facility expired May 31, 2004. As of June 1, 2004, our headquarters are located in approximately 106,000 square feet of office space in Washington, DC. The facilities accommodate research, marketing and sales, information technology, administration, graphic services and operations personnel. We lease our office facilities, and the lease expires in June 2019. The terms of the lease on the new facility contain provisions for rental escalation and we are required to pay our portion of executory costs such as taxes and insurance. We are also obligated to take additional expansion space in the building pursuant to the lease. We believe that our facilities are adequate for our current needs and that additional facilities are available for lease to meet any future needs.

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     We have entered into a $3.2 million letter of credit agreement with a commercial bank which expires October 5, 2004, to provide a security deposit for our new office lease. We pledged certain assets as collateral under the letter of credit agreement. To date, no amounts have been drawn on this agreement.

     The following summarizes certain of our contractual obligations at March 31, 2004 and the effect such obligations are expected to have on our liquidity and cash flows in future periods. These arrangements are more fully described in Notes 9 and 12 to the consolidated financial statements.

     At March 31, 2003 and 2004, we have no off-balance sheet financing or other arrangements with unconsolidated entities or financial partnerships (such as entities often referred to as structured finance or special purpose entities) established for purposes of facilitating off-balance sheet financing or other debt arrangements or for other contractually narrow or limited purposes.

Share Repurchase

     In January 2004, we announced that our Board of Directors authorized a share repurchase of up to $50 million of our common stock. Repurchases will be made from time to time in open market and privately negotiated transactions subject to market conditions. No minimum number of shares has been fixed. We will fund our share repurchases with cash on hand and cash generated from operations.

Exercise of Certain Options

     Options granted to certain of our optionholders under our 1997 and 2001 stock-based incentive compensation plans were exercised to acquire shares sold at various times in fiscal 2003 and fiscal 2004. Upon the exercise of these options we received a total of approximately $21.5 million in fiscal 2003 and $26.8 million in fiscal 2004 in cash in payment of option exercise prices.

     We recognized approximately $781,000 and $1.7 million in compensation expense reflecting additional Federal Insurance Corporation Act taxes as a result of the taxable income that employees recognized upon the exercise of non-qualified common stock options in fiscal 2003 and 2004, respectively. We also incurred additional compensation expense for tax reporting purposes, but not for financial reporting purposes, that increased our deferred tax asset to reflect allowable tax deductions that will be realized in the determination of our income tax liability and therefore reduce our future income tax payments. In connection with these transactions, our deferred tax asset increased by approximately $20.9 million and $40.0 million in fiscal 2003 and 2004, respectively. Although our provision for income taxes in the consolidated statements of income did not change since the tax benefit associated with the option exercises is recorded directly into stockholders’ equity, our actual cash payments will be reduced as we utilize our deferred tax asset. As a result of the receipt of cash for the exercise of options, the incurrence of additional compensation expense and the recognition of a deferred tax asset, our stockholders’ equity increased by approximately $40.6 million and $65.1 million in fiscal 2003 and 2004, respectively, in connection with the exercise of stock options.

Significant Related Party Transactions

Transactions with DGB Enterprises, Inc.

     Our founder, David G. Bradley owns a controlling interest in certain entities that operate in different industries from us. In 1997, our founder created DGB Enterprises, Inc. to manage his various business interests including his ownership in us. To achieve operating efficiencies, DGB Enterprises, Inc. consolidated certain management and administrative functions for these entities, and assumed the primary lease on office space used by these entities and shared with us. We entered into the following transactions with DGB Enterprises and these other interests as follows:

     Management Services

     DGB Enterprises, Inc. provided us with direct senior management services, which resulted in an allocation in the three months ended June 30, 2001 in the amount of $96,000, for compensation and related charges for our acting Chief Executive Officer. The Chief Executive Officer services charge was phased out in June 2001 when we hired a permanent Chief Executive Officer. We believe these charges approximate the costs which would have been incurred had we operated on a stand-alone basis.

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     Administrative Services

     From January 2000 to June 2001, the majority of our administrative functions, including recruiting, human resources, facilities and telecommunications, were provided under an administrative services agreement by DGB Enterprises, Inc., which provided similar services to all entities under our founder’s control. In July 2001, we entered into a new administrative services agreement whereby we assumed internal management of substantially all these administrative functions while DGB Enterprises, Inc. continued to provide us with services related to the facilities associated with our shared leased space. Under the new agreement we provide DGB Enterprises, Inc., and related entities owned or controlled by our founder, with a variety of administrative services including services related to information technology and support, payroll and accounting and recruiting. This new agreement has a two-year term. Fees for the services provided under all these agreements are based on direct costs per transaction, square footage, headcount or a fixed cost per month that approximates the cost for each entity to internally provide or externally source these services. We believe these net charges approximate the costs which would have been incurred had we operated on a stand-alone basis. We incurred net charges under all these arrangements in the amount of $1.1 million, $0.7 million and $1.0 million for fiscal 2002, 2003 and 2004, respectively.

     Affiliate Company Charge

     DGB Enterprises, Inc. assessed a fee for strategic direction and oversight services to us and to each of the entities controlled by our founder. The charge was calculated as a percentage of revenue. As of October 1, 2001, our newly constituted Board of Directors began to provide these services and the affiliate company charge, which amounted to $2.7 million in fiscal 2002, was eliminated.

     Lease and Sublease Agreements

     In fiscal 2000 we assigned our office lease to DGB Enterprises, Inc., transferred leasehold improvements related to our office space to DGB Enterprises, Inc. and subsequently entered into a sublease agreement with them on terms consistent with the original agreement. The lease agreement runs through May 2004. We incurred rent expense under this arrangement of $3.2 million, $3.4 million, and $3.6 million for fiscal 2002, 2003 and 2004, respectively.

Transactions with The Corporate Executive Board Company

     In October 1997, the Company spun-off The Corporate Executive Board Company, a division that provided best practices research and analysis focusing on corporate strategy, operations and general management issues for non-health care companies.

     We have a noncompetition agreement with The Corporate Executive Board Company which generally prohibits The Corporate Executive Board Company from selling any membership-based products and services to health care providers. Additionally, The Corporate Executive Board Company is prohibited from selling such products and services to other types of health care organizations unless the products and services are of a general business nature and are principally sold to companies and institutions not in the health care industry. This agreement ends on January 1, 2007. After that date, The Corporate Executive Board Company may sell membership-based products and services in direct competition with us, which may have a material adverse effect on our revenues.

     In conjunction with the spin-off of The Corporate Executive Board Company and in order to assist in its transition to an independent corporation, we and The Corporate Executive Board Company entered into a royalty free license agreement, an administrative services agreement, a vendor contracts agreement and sublease agreement. Under these arrangements, we provided services of approximately $110,000 in fiscal 2002, and each of these arrangements has expired or been terminated.

Transactions with our Officers, Directors and Stockholders

     Prior to our initial public offering, we made loans to Jeffrey D. Zients, our Chairman of the Board, and Michael A. D’Amato, one of our directors. In connection with our initial public offering in November 2001, we made cash and noncash distributions of $15.9 million, including these loans, to our then existing stockholders. We also distributed approximately $13.0 million in cash to our founder in May and June 2001. In addition, in April 2001 we funded a loan to Scott A. Schirmeier, our General Manager, Sales and Marketing, which was repaid with interest in December 2001.

     In May 2001, we entered into a stock option agreement with our founder pursuant to which we had an option to purchase 4,564,061 shares of our common stock at $7.13 per share. This option was intended to provide us with shares to be issued upon the exercise of outstanding employee stock options so that our stockholders would not experience dilution because of the issuance of new shares upon such exercise. Our founder terminated this option immediately prior to our initial public offering by transferring shares of our common stock to us in an amount equal to the excess of the fair value of the stock over the exercise price of the option.

     For more information on all of these transactions, see note 9 to our consolidated financial statements.

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Summary of Critical Accounting Policies

     We have identified the following policies as critical to our business operations and the understanding of our results of operations. This listing is not a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by accounting principles generally accepted in the United States, with no need for management’s judgment in their application. There are also areas in which management’s judgment in selecting any available alternative would not produce a materially different result. However, certain of our accounting policies are particularly important to the presentation of our financial position and results of operations and may require the application of significant judgment by our management; as a result they are subject to an inherent degree of uncertainty. In applying those policies, our management uses its judgment to determine the appropriate assumptions to be used in the determination of certain estimates. Those estimates are based on our historical experience, our observance of trends in the industry, information provided by our members and information available from other outside sources, as appropriate. For a more detailed discussion on the application of these and other accounting policies, see Note 2 to our consolidated financial statements. Our critical accounting policies include:

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 disclosures of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Revenue recognition

     Revenues from renewable research memberships and best practices installation support memberships are recognized over the term of the related subscription agreement, which is generally 12 months. Fees are generally billable, and the full amount of program agreement fees receivable and related deferred revenue are recorded, when a letter agreement is signed by the member. Certain fees are billed on an installment basis. Members may request a refund of their fees, which is provided on a pro rata basis relative to the length of the service period. As of March 31, 2002, 2003 and 2004, approximately $1.0 million, $0.3 million and $1.3 million, respectively, of deferred revenues were to be recognized beyond the following 12 months.

Cash equivalents and marketable securities

     Included in cash equivalents are marketable securities that mature within three months of purchase. Investments with maturities of more than three months are classified as marketable securities. As of March 31, 2003 and 2004, the Company’s marketable securities consisted of U.S. government agency obligations and Washington, D.C. and other state tax-exempt notes and bonds. The Company’s marketable securities, which are classified as available-for-sale, are carried at fair market value based on quoted market prices. The net unrealized gains and losses on available-for-sale marketable securities are excluded from net income and are included within accumulated elements of comprehensive income. The specific identification method is used to compute the realized gains and losses on the sale of marketable securities. Current marketable securities have maturity dates within twelve months of the balance sheet date. The Company may not hold its marketable securities to maturity and may elect to sell the securities at any time.

Allowance for uncollectible revenue

     Our ability to collect outstanding receivables from our members has an effect on our operating performance and cash flows. This effect is mitigated because memberships, which are predominantly annual contracts, are generally payable by members at the beginning of the contract term. We record an allowance for uncollectible revenue as a reduction of revenue based on our ongoing monitoring of our members’ credit and the aging of receivables.

Deferred incentive compensation

     Direct incentive compensation related to the negotiation of new and renewal memberships is deferred and amortized on a straight line basis over the term of the related memberships.

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Deferred tax asset recoverability

     For tax purposes, we have deferred income tax assets consisting primarily of net operating loss carry forwards for regular federal and state income tax purposes generated from the exercise of common stock options. In estimating future tax consequences, Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes (SFAS No. 109) generally considers all expected future events in the determination and evaluation of deferred tax assets and liabilities. We believe that our future taxable income will be sufficient for the full realization of the deferred income taxes. However, SFAS No. 109 does not consider the effect of future changes in existing tax laws or rates in the determination and evaluation of deferred tax assets and liabilities until the new tax laws or rates are enacted. We have established our deferred income tax assets and liabilities using currently enacted tax law and rates. We will recognize an adjustment for the impact of new tax laws or rates on the existing deferred tax assets and liabilities when and if new tax laws or rates are enacted.

Washington, D.C. income tax incentives

     The Office of Tax and Revenue of the Government of the District of Columbia (the “Office of Tax and Revenue”) has adopted regulations in accordance with the New E-Conomy Transformation Act of 2000 (the “Act”) that modify the income and franchise tax, sales and use tax, and personal property tax regulations, effective April 2001. Specifically, the regulations provide certain credits, exemptions and other benefits to a Qualified High Technology Company (“QHTC”).

     We have performed an analysis to support our position that we meet the definition of a QHTC under the provisions of the Act. Accordingly, we will amend our 2003 Washington, DC income tax return and certain sales and use tax returns, to file as a QHTC. As a QHTC, our Washington, DC income tax rate will be 0.0% and we will be eligible for certain Washington, DC income tax credits. In addition, we will be entitled to relief from certain sales and use taxes. While we believe we qualify as a QHTC, we have not recognized the impact of this election within the financial statements for the fiscal year ended March 31, 2004 because of uncertainties inherent in the regulations, as adopted.

     For financial reporting purposes, we have valued our deferred income tax assets and liabilities using Washington, DC’s currently enacted income tax rate of 9.975%. Additionally, we have continued to provide for income, sales and use taxes as if we were not a QHTC. However, if we had received a determination that we qualified for QHTC status, we would have recorded a charge to earnings of approximately $5.8 million, representing the effects on our existing deferred tax assets of reducing the Washington, DC income tax rate to 0.0%, net of any income tax credits discussed above. If we determine it is more likely than not that the Office of Tax and Revenue will accept our election as a QHTC, we will record the applicable charge. Additionally, we would recognize the refund of any previously paid or provided sales and use taxes at that time.

Recovery of long-lived assets

     Long-lived assets and identifiable assets to be held and used are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount should be addressed. Impairment is identified by comparing the carrying value to the estimated undiscounted future cash flows expected to result from the use of the assets and their eventual dispositions. Impairment is measured and recorded on the basis of fair value determined using discounted cash flows. We consider expected cash flows and estimated future operating results, trends and other available information in assessing whether the carrying value of assets is impaired. We believe no such impairment existed as of March 31, 2004 or 2003.

Recent Accounting Pronouncements

     In January 2003, the FASB issued Financial Accounting Standards Board Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51.” This interpretation of ARB No. 51, “Consolidated Financial Statements,” requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. We adopted FIN 46 as of March 31, 2004. The adoption had no impact on our consolidated financial statements.

     In November 2002, the Emerging Issues Task Force (“EITF”) reached a consensus on EITF Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables,” (“Issue 00-21”). Issue 00-21 provides guidance for determining the unit(s) of accounting in arrangements that include multiple products, services, and/or rights to use assets. The adoption of Issue 00-21 had no impact on the Company’s financial statements.

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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

     We are exposed to interest rate risk primarily through our portfolio of cash, cash equivalents and marketable securities, which is designed for safety of principal and liquidity. Cash and cash equivalents include investments in highly liquid U.S. Treasury obligations with maturities of less than three months. At March 31, 2004, our marketable securities consist of $16.0 million in tax-exempt notes and bonds issued by the District of Columbia, $3.0 million in tax-exempt notes and bonds issued by other states, and $79.4 million in U.S. government agency securities. The average maturity on all our marketable securities as of March 31, 2004 was approximately 4.9 years. We perform periodic evaluations of the relative credit ratings related to the cash, cash equivalents and marketable securities. This portfolio is subject to inherent interest rate risk as investments mature and are reinvested at current market interest rates. We currently do not use derivative financial instruments to adjust our portfolio risk or income profile. Due to the nature of our investments we have not prepared quantitative disclosure for interest rate sensitivity in accordance with Item 305 of Regulation S-K as we believe the effect of interest rate fluctuations would not be material.

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Item 8. Financial Statements and Supplementary Data.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders of The Advisory Board Company:

     We have audited the accompanying consolidated balance sheets of The Advisory Board Company and subsidiaries as of March 31, 2003 and 2004, and the related consolidated statements of income, stockholders’ equity and cash flows for each of the three years in the period ended March 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 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 examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

     In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of The Advisory Board Company and subsidiaries as of March 31, 2003 and 2004, and the consolidated results of their operations and their cash flows for each of the three years in the period ended March 31, 2004, in conformity with U.S. generally accepted accounting principles.

		/s/ ERNST & YOUNG LLP
Baltimore, Maryland
April 28, 2004

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THE ADVISORY BOARD COMPANY AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)

The accompanying notes are an integral part of these consolidated statements.

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THE ADVISORY BOARD COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)

The accompanying notes are an integral part of these consolidated statements.

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THE ADVISORY BOARD COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands, except share amounts)

[Continued from above table, first column(s) repeated]

The accompanying notes are an integral part of these consolidated statements.

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THE ADVISORY BOARD COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)

The accompanying notes are an integral part of these consolidated statements.

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THE ADVISORY BOARD COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Business description

     The Advisory Board Company (the Company) provides best practices research and analysis to the health care industry, focusing on business strategy, operations and general management issues. Best practices research and analysis identifies, analyzes and describes specific management initiatives, processes and strategies that produce the best results in solving common business problems or challenges.

2. Stock splits, reincorporation and initial public offering

     On October 26, 2001, the Company completed a 16.84-for-1 stock split of its Class A voting shares and Class B nonvoting shares. In addition, all the Class A and Class B shares were converted to shares of Common Stock. All share and per share amounts have been retroactively adjusted to give effect to this action. In August 2002 the Company retired its Class A Voting Common Stock and Class B Nonvoting Common Stock.

     To change its state of incorporation, the Company was merged into a newly formed Delaware corporation on August 13, 2001. No effect was given to this reincorporation for accounting purposes. The new corporation is authorized to issue 125,000,000 shares of stock consisting of:

•		20,000 shares of Class A Voting Common Stock, par value $0.01 per share;
•		29,980,000 shares Class B Nonvoting Common Stock, par value $0.01 per share;
•		90,000,000 shares of Common Stock, par value $0.01 per share; and
•		5,000,000 shares of Preferred Stock, par value $0.01 per share.

     In November 2001, the Company completed its initial public offering in which the Company’s founder and former principal stockholder sold 5,750,000 shares of the Company’s common stock. The Company did not receive any proceeds from this offering.

3. Basis of presentation and summary of significant accounting policies

     The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries Advisory Board Services, Inc. (ABSI) and Advisory Board Investments, Inc. (ABII), both of which were formed during the year ended March 31, 2003. ABSI holds the Company’s trademarks and service marks, and ABII holds certain of the Company’s marketable securities. All significant intercompany transactions have been eliminated.

Cash equivalents and marketable securities

     Included in cash equivalents are marketable securities that mature within three months of purchase. Investments with maturities of more than three months are classified as marketable securities. As of March 31, 2003 and 2004, the Company’s marketable securities consisted of U.S. government agency obligations and Washington, D.C. and other state tax-exempt notes and bonds. The Company’s marketable securities, which are classified as available-for-sale, are carried at fair market value based on quoted market prices. The net unrealized gains and losses on available-for-sale marketable securities are excluded from net income and are included within accumulated elements of other comprehensive income. The specific identification method is used to compute the realized gains and losses on the sale of marketable securities. Current marketable securities have maturity dates within twelve months of the balance sheet date. The Company may not hold its marketable securities to maturity and may elect to sell the securities at any time.

Property and equipment

     Property and equipment consists of leasehold improvements, furniture, fixtures, equipment, and capitalized internal software development costs. Property and equipment is stated at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets, ranging from three to fifteen years. Internal software development costs are accounted for in accordance with AICPA Statement of Position No. 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use,” and web development costs are accounted for in accordance with EITF 00-2, “Accounting for Web Site Development Costs.” Capitalized internal software development costs and capitalized web development costs are amortized using the straight-line method over the estimated useful lives of the assets, which range from three to five years. Maintenance and repairs are charged to expense as incurred.

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Recovery of long-lived assets

     Long-lived assets and identifiable assets to be held and used are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount should be addressed. Impairment is identified by comparing the carrying value to the estimated undiscounted future cash flows expected to result from the use of the assets and their eventual dispositions. Impairment is measured and recorded on the basis of fair value. The Company considers expected cash flows and estimated future operating results, trends, and other available information in assessing whether the carrying value of assets is impaired. The Company believes that no such impairment existed as of March 31, 2003 and 2004.

Revenue recognition

     Revenues from renewable research memberships and best practices installation support memberships are recognized over the term of the related subscription agreement, which is generally 12 months. Fees are generally billable, and the full amount of program agreement fees receivable and related deferred revenue are recorded, when a letter agreement is signed by the member. Certain fees are billed on an installment basis. Members may request a refund of their fees, which is provided on a pro rata basis relative to the length of the service period. As of March 31, 2002, 2003 and 2004, approximately $1.0 million, $0.3 million and $1.3 million, respectively, of deferred revenues were to be recognized beyond the following 12 months.

Allowance for uncollectible revenue

     The Company’s ability to collect outstanding receivables from its members has an effect on the Company’s operating performance and cash flows. This effect is mitigated because memberships, which are predominantly annual contracts, are generally payable by members at the beginning of the contract term. The Company records an allowance for uncollectible revenue as a reduction of revenue based on its ongoing monitoring of members’ credit and the aging of receivables.

Deferred incentive compensation

     Direct incentive compensation related to the negotiation of new and renewal memberships is deferred and amortized over the term of the related memberships.

Earnings per share

     Basic earnings per share is computed by dividing net income by the number of weighted average common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the number of weighted average common shares and common share equivalents outstanding during the period. Common share equivalents consist of common shares issuable upon the exercise of outstanding common stock options. The number of weighted average common share equivalents outstanding is determined in accordance with the treasury stock method, using the Company’s prevailing tax rates. A reconciliation of basic to diluted weighted average common shares outstanding is as follows (in thousands):

Concentrations of risk

     Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents, marketable securities and membership fees receivable. The Company maintains cash and cash equivalents and marketable securities with financial institutions. Marketable securities consist of U.S. government agency obligations and municipal obligations, primarily from the District of Columbia. The Company performs periodic evaluations of the relative credit ratings related to the cash, cash equivalents and marketable securities. The credit risk with respect to membership fees receivable is generally diversified due to the large number of entities comprising the Company’s membership base, and the Company establishes allowances for potential credit losses.

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     The Company generates revenues from customers located outside the United States. For each of the years ended March 31, 2002, 2003 and 2004, the Company generated approximately 1% of revenues from customers outside the United States. No one customer accounted for more than 2% of revenues for any period presented.

Income taxes

     Deferred income taxes are determined on the asset and liability method. Under this method, temporary differences arise as a result of the difference between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or the entire deferred tax asset will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax law and tax rates on the date of the enactment of the change.

Fair value of financial instruments

     The fair value of current assets and current liabilities approximates their carrying value due to their short maturity.

Segment reporting

     Statement of Financial Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information” requires a business enterprise, based upon a management approach, to disclose financial and descriptive information about its operating segments. Operating segments are components of an enterprise about which separate financial information is available and regularly evaluated by the chief operating decision maker of an enterprise. Under this definition, the Company operated as a single segment for all periods presented.

Research and development costs

     Costs related to the research and development of new company programs are expensed when incurred.

Stock-based compensation

     The Company has several stock-based compensation plans, which are described more fully in Note 11. The Company accounts for those plans using the intrinsic value method of expense recognition and measurement prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees”, and related Interpretations (collectively, “APB No. 25”). In accordance with Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”), as amended by Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure (“SFAS No. 148”),” the pro forma stock-based compensation cost, net income and basic and diluted earnings per share is computed as if the fair value based method of expense recognition and measurement prescribed by SFAS No. 123 had been applied to all options.

     The fair values of options granted from the date of the Spin-Off, were estimated at the date of grant for each period using the Black-Scholes option pricing model with the following weighted average assumptions:

     The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price characteristics that are significantly different from those of traded options. Because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its stock rights.

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     For purposes of pro forma disclosures, the estimated fair value of options is amortized to expense over the estimated service period. If the Company had used the fair value accounting provisions of SFAS No. 123, pro forma net income (loss) for each period would have been as follows (in thousands, except per share information):

     The pro forma results may not necessarily be indicative of future results.

Use of estimates in preparation of consolidated financial statements

     The preparation of consolidated 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 consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Recent accounting pronouncements

     In January 2003, the FASB issued Financial Accounting Standards Board Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51.” This interpretation of ARB No. 51, “Consolidated Financial Statements,” requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The Company adopted FIN 46 as of March 31, 2004. The adoption had no impact on the consolidated financial statements.

     In November 2002, the Emerging Issues Task Force (“EITF”) reached a consensus on EITF Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables,” (“Issue 00-21”). Issue 00-21 provides guidance for determining the unit(s) of accounting in arrangements that include multiple products, services, and/or rights to use assets. The adoption of Issue 00-21 had no impact on the Company’s financial statements.

4. Marketable securities

     The aggregate value, amortized cost, gross unrealized gains and gross unrealized losses on available-for-sale marketable securities are as follows (in thousands):

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     The following table summarizes marketable securities maturities (in thousands):