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FORM 10-Q

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549

     (Mark One)

     [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

     For the quarterly period ended   September 30, 2002

     OR

     [   ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

     For the period from         to        

Commission file number    0-24787

        AFFILIATED COMPUTER SERVICES, INC.        
(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code (214) 841-6111

                        Not Applicable                        
(Former name, former address and former fiscal year, if changed since last report.)

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     

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES

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ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)

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

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(in thousands, except per share amounts)

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

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands)

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

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

1.		BASIS OF PRESENTATION
		The consolidated financial statements include the accounts of Affiliated Computer Services, Inc. (“ACS”) and its majority-owned subsidiaries. All material intercompany profits, transactions and balances have been eliminated. We are a Fortune 1000 company comprised of approximately 36,000 full-time equivalent employees in 47 countries providing business process and technology outsourcing solutions to commercial, state and local government and federal government clients.
		The financial information presented should be read in conjunction with our consolidated financial statements for the year ended June 30, 2002. The foregoing unaudited consolidated financial statements reflect all adjustments (all of which are of a normal recurring nature) which are, in the opinion of management, necessary for a fair presentation of the results of the interim periods. The results for the interim periods are not necessarily indicative of results to be expected for the year.
		All share and per share information is presented after giving effect to the two-for-one stock split of our Class A and Class B common shares declared on January 22, 2002, paid on February 22, 2002 in the form of a stock dividend to shareholders of record as of February 15, 2002.
		Significant accounting policies are detailed in our Annual Report on Form 10-K for the year ended June 30, 2002. For discussion of our critical accounting policies, please refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
2.		DEBT
		In September 2002, we entered into a new $875 million senior unsecured revolving credit facility with a term of 39 months. This new facility replaced our $450 million credit facility and the $375 million interim credit facility, which was used to fund the acquisition of AFSA Data Corporation (“AFSA”) in June 2002. The new revolving credit agreement provides for unsecured borrowings at rates and fees based upon ACS’ credit ratings; therefore rates will fluctuate based upon future changes. Currently borrowings bear interest at LIBOR plus 0.575%, a facility fee of 0.175% per annum on the committed amount of the facility plus a usage fee of 0.125% per annum on the total amount of outstanding borrowings. After March 2003, the usage fee will be applicable only when borrowings exceed $437.5 million. The agreement matures in December 2005 and contains certain covenants, including maintaining specific interest coverage and debt-to-total EBITDA ratios.
		As of September 30, 2002, we had approximately $323 million available for use under the new facility, after giving effect to outstanding letters of credit of $170 million that secure certain contractual performance and other obligations.
3.		GOODWILL AND OTHER INTANGIBLE ASSETS
		The changes in the carrying amount of goodwill for the quarter ended September 30, 2002 are as follow (in thousands):

Goodwill balances by segment as of June 30, 2002 have been restated to reflect a change in our internal organization that caused the composition of our reportable segments to change. Current quarter activity reflects the collection of indemnified amounts from the seller of a company acquired in fiscal year 2001, offset by additional transaction costs and other liabilities incurred related to the AFSA acquisition and other fiscal year 2002 acquisitions.

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

     The following information relates to our intangibles as of September 30, 2002:

		Amortization includes amounts charged to amortization expense for customer related intangibles and other intangibles, other than contract inducements. Amortization of contract inducements of $1.2 million for the quarter is recorded as a reduction to related contract revenue. Amortization expense for the first quarter of fiscal 2003 includes approximately $4.0 million related to acquired customer related intangibles. Customer related intangibles are amortized over a weighted average of approximately 8 years. All other intangibles are amortized over a weighted average of 9 years.
4.		DERIVATIVES AND COMPREHENSIVE INCOME
		We have adopted Statement of Financial Accounting Standards No. 130 (“SFAS 130”), “Reporting Comprehensive Income.” The objective of SFAS 130 is to report a measure of all changes in equity of an enterprise that result from transactions and other economic events of the period other than transactions with owners. Comprehensive income is the total of net income and other non-owner changes in equity.
		During fiscal year 2002, in order to manage interest costs and exposure to changing interest rates on our $450 million revolving credit agreement, we held two interest rate hedges, designated as cash flow hedges, which were initiated in December 1998. Both interest rate hedges expired in December 2001. Each hedge was structured such that we paid a fixed rate of interest of 4.54%, and received a floating rate of interest based on one month LIBOR. The fair value of each interest rate hedge reflected termination cash value and was reflected in “Accumulated other comprehensive income (net of tax).”
		During fiscal year 2002, we held an investment in a marketable security. In order to manage the volatility of the value of our marketable security investment, we entered into a no-cost collar agreement in June 2001, which was settled and the investment sold in June 2002. The collar, a fair value hedge, was structured so that all fluctuations in the price of the marketable security above or below 100% or 102.5% of its value on the date the collar was entered into were hedged. The fair value of the collar was reflected in “Accumulated other comprehensive income (net of tax).”

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

     The components of comprehensive income are as follow (in the thousands):

5.		EARNINGS PER SHARE
		In accordance with Statement of Financial Accounting Standard No. 128, “Earnings per Share,” the following table (in thousands except per share amounts) sets forth the computation of basic and diluted earnings per share after giving effect to the two-for-one stock split paid on February 22, 2002:

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

6.		SEGMENT INFORMATION
		Based on the criteria set forth in Statement of Financial Accounting Standard No. 131, “Disclosure about Segments of an Enterprise and Related Information,” we have three reportable segments: state and local government, commercial and federal government. Certain reclassifications have been made to the segment disclosure as the result of changes to our reporting structure. The following is a summary of certain financial information by reportable segment (in thousands):

7.		RELATED PARTY TRANSACTIONS
		As of June 30, 2002, we held a minority preferred stock interest in DDH Aviation, Inc., a corporate airplane brokerage company organized in 1997 (“DDH”). Our Chairman owns a majority voting interest in DDH and our President and General Counsel, along with our Chairman were directors of DDH. At June 30, 2002, DDH had a $48 million line of credit with Citicorp USA, Inc., for which we and our Chairman, in exchange for warrants to acquire additional voting stock, acted as partial guarantors. In addition, we obtained access to corporate aircraft at favorable rates in consideration of its guaranty. We had guaranteed up to approximately $11.5 million of the line of credit and our Chairman guaranteed up to approximately $17.5 million of the line of credit.
		Subsequent to June 30, 2002, our Chairman assumed in full our guaranty obligations to Citicorp and our guaranty to Citicorp was released in full. Our minority preferred stock interest and warrants (with a recorded value of $100,000 at June 30, 2002) in DDH were cancelled. We have no further contingent liability related to DDH debt and no ownership interest in DDH. Our officers, other than the Chairman, are no longer directors of DDH. In July 2002, we purchased $1.0 million in prepaid charter flights at favorable rates from DDH.
8.		ACQUISITIONS
		In August 2001, we acquired 100% of the stock of Lockheed Martin IMS Corporation (“IMS”), a wholly owned subsidiary of Lockheed Martin Corporation, for approximately $825 million. The acquisition was funded from a $550 million 18-month interim credit facility, borrowings from our $450 million revolving credit facility, and existing cash on hand. The $550 million 18-month interim credit facility was repaid in October 2001 with the proceeds of our issuance of Class A common stock. IMS’ results have been included in our consolidated financial statements from the effective date of the acquisition, August 1, 2001.

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AFFILIATED COMPUTER SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

		In June 2002 we acquired AFSA, a subsidiary of FleetBoston Financial Corporation, for approximately $410 million plus related transaction costs. The acquisition was funded with a combination of a $375 million 18-month interim credit facility, borrowings from our existing revolving credit facility, and existing cash on hand. The $375 million interim credit facility was repaid in September 2002 with the proceeds of our $875 million 39-month revolving credit facility (see Note 2). AFSA’s results of operations have been included in our consolidated financial statements from the effective date of the acquisition, June 1, 2002.
		Pro forma Financial Information
		The following unaudited pro forma information presents a summary of our consolidated results of operations as if the IMS acquisition and the AFSA acquisition had occurred at the beginning of the period presented and are not necessarily indicative of future results or actual results that would have been achieved had the acquisition occurred at the beginning of the periods presented.

9.		NEW ACCOUNTING STANDARDS
		In June 2002, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 146 (“SFAS 146”), “Accounting for Costs Associated with Exit or Disposal Activities,” which changes the rules for how companies must account for costs associated with exit or disposal activities. Costs typically associated with exit or disposal activities include one-time employee termination costs, contract cancellation provisions, and relocation costs. SFAS 146 nullifies EITF Issue 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” The provisions of the new standard are effective for exit or disposal activities initiated after December 31, 2002, with early application encouraged. We do not believe that SFAS 146 will have a material impact on our future earnings and financial condition.
		Emerging Issues Task Force Issue 00-21 “Accounting for Revenue Arrangements with Multiple Deliverables” (“EITF 00-21”) addresses the accounting treatment for an arrangement to provide the delivery or performance of multiple products and/or services where the delivery of a product or system or performance of services may occur at different points in time or over different periods of time. The arrangements are often accompanied by initial installation, initiation, or activation services and involve either a fixed fee or a fixed fee coupled with a continuing payment stream, which may be fixed or variable. At its October 25, 2002 meeting, the EITF issued a tentative conclusion regarding, among other issues, the applicability of the provisions regarding separation of contract elements in EITF 00-21 to contracts where one or more elements fall within the scope of other authoritative literature, such as Statement of Position 81-1, “Accounting for Performance of Construction - Type and Certain Production - - Type Contracts” (“SOP 81-1”). The proposed EITF does not impact the use of SOP 81-1 for contracts that fall within the scope of SOP 81-1, such as for implementation or building of an information technology system or product to client specifications for a client under a long-term contract. Where an implementation or development project is contracted with a client, and the vendor will also provide services or operate the system over a period of time, EITF 00-21 provides the methodology for separating the contract elements and earnings processes. The provisions of EITF 00-21 are expected to be applicable on a prospective basis to transactions entered into in fiscal years beginning after December 15, 2002. We do not believe that EITF 00-21 will have a material impact on our financial position or results of operations.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

All statements in this Management’s Discussion and Analysis of Financial Condition and Results of Operations that are not based on historical fact are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 and the provisions of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (which Sections were adopted as part of Private Securities Litigation Reform Act of 1995). While management has based any forward-looking statements contained herein on its current expectations, the information on which such expectations were based may change. These forward-looking statements rely on a number of assumptions concerning future events and are subject to a number of risks, uncertainties, and other factors, many of which are outside of our control, that could cause actual results to materially differ from such statements. Such risks, uncertainties, and other factors include, but are not necessarily limited to, those set forth under the caption “Risks Related to our Business.” In addition, we operate in a highly and rapidly changing environment, and new risks may arise. Accordingly, investors should not place any reliance on forward-looking statements as a prediction of actual results. We disclaim any intention to, and undertake no obligation to, update or revise any forward-looking statement.

GENERAL

In the quarter ended September 30, 2002, we signed new contracts with new clients and incremental business with existing clients representing $144 million of new annualized recurring revenue. Included in this amount was a $34 million per year five-year contract with the state of Ohio for Child Support Payment Processing. Over 80% of our bookings in the quarter ended September 30, 2002 were for business process outsourcing (“BPO”) services. Over two-thirds of our new business bookings were in the state and local government segment, reflecting continued demand in this segment for revenue enhancing or cost reducing solutions.

We closed no significant acquisitions in the quarter ended September 30, 2002. In the quarter ended September 30, 2001, we closed two transactions: the acquisition of Lockheed Martin IMS Corporation (“IMS”), a wholly-owned subsidiary of Lockheed Martin Corporation, which is now a part of our state and local government segment; and the acquisition of the business process outsourcing services unit of National Processing Company (“NPC”).

IMS, with its principal offices located in Washington D.C. and approximately 4,800 employees primarily throughout the United States, provides services to state and local government agencies in child support enforcement, welfare and workforce services, child care management, electronic toll collection, and other intelligent transportation services involving the trucking industry, photo enforcement of red-light and speeding violations, parking management, and information technology outsourcing. The transaction, valued at $825 million plus related transaction costs, was initially funded through a combination of a $550 million, 18-month interim credit facility, borrowings on our existing credit facility and existing cash on hand, which was repaid in October 2001 with proceeds from our issuance of Class A common stock. IMS’ operating results are included in our financial statements from the effective date of the acquisition, August 1, 2001.

NPC provides healthcare claims processing, credit card application processing and airline lift ticket processing. As part of the transaction, we acquired all of NPC’s offshore operations in Jamaica, the Dominican Republic, Barbados and a majority of NPC’s Mexican operations. The transaction value was $43 million plus related transaction costs. NPC’s operating results are included in our financial statements from the effective date of the acquisition, August 1, 2001.

In addition to the IMS and NPC acquisitions that were completed in the first quarter of fiscal year 2002, we acquired six other companies in fiscal year 2002, the most significant of which are discussed below.

In May 2002, we acquired the finance and accounting business process outsourcing unit of Andersen Worldwide (“Andersen”). Included in this acquisition are contracts with General Motors (“GM”) and the University of Phoenix (“the University”). Under a new 10-year agreement with GM, we will provide transactional accounting services such as payroll processing, disbursement processing, dealer accounting, accounts receivable processing, lease and subsidiary accounting, and expense reporting in the United States and Europe. Under the arrangement with the University, we will provide student financial aid business process outsourcing services to the University including federal eligibility determinations, loan and grant processing, and disbursement of student aid as well as other support services related to student financial aid processing. The transaction was valued at approximately $65 million plus related transaction costs. Andersen’s operating results are included in our financial statements from the effective date of the acquisition, May 1, 2002 for the domestic operations, and June 1, 2002 for the foreign operations.

In June 2002, we acquired AFSA Data Corporation (“AFSA”), a subsidiary of FleetBoston Financial Corporation, for approximately $410 million plus related transaction costs. AFSA is the nation’s largest educational services company, servicing a student loan portfolio of 8.1 million borrowers with outstanding loans of approximately $85 billion. Additionally, AFSA is a leading business process outsourcer for federal, state, and local governments for a variety of health and human services programs, including Medicare, Medicaid, children’s health insurance programs (CHIP), and welfare-to-workforce services. AFSA’s operating results are included in our financial statements from the effective date of the acquisition, June 1, 2002.

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Our largest contract for services is with the Department of Education, for which we service student loans under the Department of Education’s Direct Student Loan program administered by its Office of Federal Student Aid (“FSA”). Revenues from this contract represent approximately 5% of our consolidated revenues. This contract was scheduled to run through September 30, 2003. In November 2001, the Department extended the contract term through September 30, 2006, with an option for further extension through September 30, 2007. This contract extension was to ensure that the Department’s current program and systems modernization initiative remains on schedule and to minimize cost and disruption to the program. In December 2001, Sallie Mae challenged the Department’s sole-source extension in a protest filed with the Department. The FSA took the position that the Sallie Mae protest was without merit and that the contract extension was lawful. In July 2002, the Department’s deciding official sustained the protest, concluding that further market research was needed to support the sole-source extension of our contract. However, the deciding official declined to rescind our contract extension and directed the FSA to analyze its direct loan servicing needs and procure the services in compliance with law. The deciding official’s decision stated that the Department could make a sole-source award to ACS if legally and factually justified. The Department is in the process of gathering market information to justify the contract extension. In a recent letter to industry participants regarding its market research, the Department stated that “market research is not a competition and no contract will be issued”, but that information gathered from this research “will be used to improve FSA’s knowledge of industry’s capabilities.” We expect that the FSA will have broad discretion in how it chooses to proceed in this matter and it could, among other things, elect to ratify the sole source extension, modify the contract extension term, or conduct a new competitive bid process. We believe we would be positioned very favorably in any competitive bid process because of our performance record with the Department and the delay that could result in the Department’s modernization initiative if another vendor were selected. However, there can be no assurance that the contract extension granted in 2001 will be sustained or that we would be awarded an extension in any competitive bid process.

RESULTS OF OPERATIONS

The following table sets forth certain items from our consolidated statements of income as a percentage of revenues:

COMPARISON OF THE QUARTER ENDED SEPTEMBER 30, 2002 TO THE QUARTER ENDED SEPTEMBER 30, 2001

Revenues

Revenue increased $242.9 million, or 37%, to $897.9 million in the first quarter of fiscal year 2003 from $655.0 million in the first quarter of fiscal year 2002. Internal revenue growth was 20% while growth from acquisitions was 17%.

Revenues in our state and local government segment, which represents approximately 45% of first quarter fiscal year 2003 revenues, increased $158.1 million, or 65%, to $402.7 million in the first quarter of fiscal 2003 from $244.5 million in the first quarter of fiscal year 2002. Internal growth of 35% resulted from the ramp up of contracts signed in fiscal year 2002 in our state healthcare and welfare to workforce services businesses. In addition, internal growth also benefited from work performed under an interim contract related to the New Jersey EZ Pass project. The balance of growth in our state and local government segments was due to the full quarter impact of the August 2001 acquisition of IMS and the impact of other fiscal year 2002 acquisitions.

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Revenues in our commercial segment, which represents approximately 32% of first quarter fiscal year 2003 revenues, increased $67.2 million, or 31%, to $287.5 million in the first quarter of fiscal 2003 from $220.3 million in the first quarter of fiscal 2002. After adjusting for the impact of units divested in fiscal year 2002, growth in our commercial segment was 36%. Of this increase, 15% was generated internally and the remainder was from our acquisition activity in fiscal year 2002.

Revenue in our federal government segment, which represents 23% of first quarter fiscal year 2003 revenues, increased $17.5 million to $207.7 million in the first quarter of fiscal 2003 from $190.2 million in the first quarter of fiscal 2002. After adjusting for the impact of units divested in fiscal year 2002, revenue growth in the federal government segment was 10%, of which 7% was from internal growth. Internal growth for the quarter was negatively impacted by the loss of the desktop services contract with the United States Senate, which was not renewed effective June 30, 2002 and represented approximately $18 million of revenue in fiscal year 2002.

Operating Expenses

As a percentage of revenue, operating expenses decreased 0.9% from 87.6% in the first quarter of fiscal 2002 to 86.7% in the first quarter of fiscal 2003. Operating expenses increased $204.7 to $778.2 million in the first quarter of fiscal 2003 from $573.5 million in the first quarter of fiscal 2002.

Wages and benefits increased $106.0 million, or 36% to $402.9 million. As a percentage of revenue, wages and benefits decreased 0.4% to 44.9%. The decrease is primarily related to increased revenues in transportation systems and services contracts in our state and local government segment that do not result in increased headcount and salaries, but are the result of rebillable services and supplies.

Services and supplies increased $68.9 million, or 40%. As a percentage of revenue, services and supplies increased 0.5% due to increased equipment sales and related direct costs on contracts in our state and local government and federal government segments in fiscal 2003, as well as costs associated with our pursuit of the potential transaction with Procter & Gamble Co., as negotiations were terminated in September 2002.

Rent, lease and maintenance increased $11.5 million, or 16%. As a percentage of revenue, rent, lease and maintenance decreased 1.8% due to the increase of BPO services in our revenue mix, which has a lower component of rent, lease and maintenance than traditional IT outsourcing.

Depreciation and amortization increased $11.7 million, or 48%. As a percentage of revenue, depreciation and amortization increased to 4.0% in fiscal 2003 from 3.7% in fiscal 2002 as a result of intangible asset amortization associated with recent acquisitions.

Other operating expenses increased $6.6 million, or 103%. As a percentage of revenue, other operating expenses increased 0.5%, primarily related to costs associated with our pursuit of the potential transaction with Procter & Gamble Co., bad debt expense, legal fees and other operating expenses.

Operating Margins

Our operating margins increased 0.9% from 12.4% in the first quarter of fiscal 2002 to 13.3% in the first quarter of fiscal 2003, due primarily to a larger percentage of BPO services in our revenue mix. BPO services typically have higher operating margins than traditional IT outsourcing services. Margins during the first quarter of fiscal year 2003 were negatively impacted by the $2.1 million of costs incurred in pursuing the potential transaction with Procter & Gamble, as negotiations were terminated in September 2002.

For the quarter ended September 30, 2002, operating margins by segment were approximately 16% for our state and local government segment, 17% for our commercial segment, and 8% for our federal government segment. For the quarter ended September 30, 2001, operating margins by segment were approximately 19% for our state and local government segment, 11% for our commercial segment and 8% for our federal government segment.

The increase in our commercial segment operating margins from the first quarter of fiscal year 2002 to the first quarter of fiscal year 2003 is primarily the result of a larger BPO mix obtained from acquisitions. The decrease in operating margins for our state and local government segment from the first quarter of fiscal year 2002 to the first quarter of fiscal year 2003 is primarily due to new business costs as well as the business mix of our revenue within the state and local government segment.

Interest expense

Interest expense decreased $5.5 million, or 44% in fiscal 2003 due to the conversion of our 4% Subordinated Convertible Notes to equity in March 2002 and approximately $1.5 million of one-time financing costs related to the IMS acquisition in the first quarter of fiscal year 2002.

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Other non-operating (income) expense, net

Other non-operating (income) expense includes the $1.3 million writedown of a note receivable in the first quarter of fiscal 2003. Other non-operating (income) expense also includes interest income on cash and cash equivalents, which was $1.6 million higher in the first quarter of fiscal year 2002 than in the same period of fiscal year 2003.

Tax Expense

Our effective tax rate of approximately 37.5% in fiscal 2003 exceeds the federal statutory rate of 35% due primarily to the net effect of state income taxes.

LIQUIDITY AND CAPITAL RESOURCES

We finance our ongoing business operations through cash flows from operations and utilize excess cash flow combined with the issuance of debt and equity to finance our acquisition strategy. One of our primary financial goals is to maintain an adequate level of liquidity through active management of assets and liabilities.

During the first quarter of fiscal year 2003, we generated $86.9 million in cash flow from operations versus $38.4 million in the same period in fiscal year 2002. Free cash flow, defined as cash flows from operations less property, equipment and purchased software additions, was approximately $42.1 million for the first quarter of fiscal year 2003 as compared to approximately $2.5 million for the first quarter of fiscal year 2002. Historically, the first quarter of the year is our lowest quarter for operating cash flow due to the timing of annual incentive payments and interest payments.

During the first quarter of fiscal year 2003, we used $53.1 million for investing activities. This includes $44.8 million in fiscal year 2003 related to the purchase of property, equipment and software versus $35.9 million in the same period in fiscal year 2002. Our capital expenditures remain at approximately 5% of total revenues, which we believe is adequate to support our growing business and to meet contractual requirements. We used $4.9 million in cash for payments related to recent acquisitions, primarily the payment of transaction costs related to the AFSA acquisition in June 2002.

During the first quarter of fiscal year 2003, cash used by financing activities was $14.3 million. We entered into a new $875 million credit facility on terms generally similar to our existing credit facility, which was partially used to refinance the $375 million interim credit facility used to fund the AFSA acquisition and which replaced our existing $450 million credit facility.

As of September 30, 2002, we had approximately $700 million of long-term debt outstanding, which was primarily comprised of approximately $317 million of our 3.5% Convertible Subordinated Notes due February 15, 2006 and $382 million outstanding under our $875 million credit facility. At September 30, 2002, we had approximately $323 million available on our $875 million revolving credit facility after considering outstanding letters of credit of $170 million.

At September 30, 2002, we had cash and cash equivalents of $53.3 million compared to $33.8 million at June 30, 2002. Included in the cash balances were $5.8 million and $5.4 million at September 30, 2002 and June 30, 2002, respectively, of restricted cash held on behalf of governmental customers.

Our working capital increased to $434.4 million at September 30, 2002 from $388.6 million at June 30, 2002 due to increased cash balances from a strong quarter of operating cash flow and a reduction in accrued compensation related to our first quarter payout of annual incentive payments. Our current ratio, defined as total current assets divided by total current liabilities, was 2.0 and 1.8 at September 30, 2002 and June 30, 2002, respectively, and our debt to capitalization ratio was 24.4% and 25.3% at September 30, 2002 and June 30, 2002, respectively. Our EBITDA to interest coverage ratio was 22 times interest for the quarter ended September 30, 2002.

Due to the terrorist attacks on September 11, 2001 and the well-documented bankruptcies of several large companies (e.g. Enron, Kmart, and WorldCom), the surety bond market has substantially changed, resulting in reduced availability of bonds and increased premiums. Some of our state and local government contracts require either a bond or a letter of credit and future requests for proposal may require a surety bond or letter of credit. Notwithstanding the existing condition of the surety bond market, management believes that we have sufficient liquidity from our cash flow and under our revolving credit facility to meet ongoing business needs and to respond to future requests for proposals from state and local governments.

As of June 30, 2002, we held a minority preferred stock interest in DDH Aviation, Inc., a corporate airplane brokerage company organized in 1997 (“DDH”). Our Chairman owns a majority voting interest in DDH and our President and General Counsel, along with our Chairman were directors of DDH. At June 30, 2002, DDH had a $48 million line of credit with Citicorp USA, Inc., for which we and our Chairman, in exchange for warrants to acquire additional voting stock, acted as partial guarantors. In addition, we obtained access to corporate aircraft at favorable rates in consideration of its guaranty. We had guaranteed up to approximately $11.5 million of the line of credit and our Chairman guaranteed up to approximately $17.5 million of the line of credit.

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Subsequent to June 30, 2002, our Chairman assumed in full our guaranty obligations to Citicorp and our guaranty to Citicorp was released in full. Our minority preferred stock interest and warrants (with a recorded value of $100,000 at June 30, 2002) in DDH were cancelled. We have no further contingent liability related to DDH debt and no ownership interest in DDH. Our officers, other than the Chairman, are no longer directors of DDH. In July 2002, we purchased $1.0 million in prepaid charter flights at favorable rates from DDH.

Management believes that available cash and cash equivalents, together with cash generated from operations and available borrowings under our credit facility, will provide adequate funds for our anticipated internal growth needs, including capital expenditures. Our management also believes that cash provided by operations will be sufficient to satisfy all existing debt obligations as they become due. However, we intend to continue our growth through acquisitions and from time to time to engage in discussions with potential acquisition candidates, which could require significant commitments of capital. In order to pursue such opportunities we may be required to incur debt or to issue additional potentially dilutive securities in the future. No assurance can be given as to our future acquisitions and expansion opportunities and how such opportunities will be financed.

DISCLOSURES ABOUT CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
AS OF SEPTEMBER 30, 2002 (IN THOUSANDS):