UNITED STATES

FORM 10-Q

(Mark One)

Commission File Number 0-22495

PEROT SYSTEMS CORPORATION

2300 WEST PLANO PARKWAY
PLANO, TEXAS
75075
(Address of principal executive offices)
(Zip Code)

(972) 577-0000
(Registrant’s telephone number, including area code)

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. [X]Yes   [   ]No

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). [X]Yes  [   ]No

Number of shares of registrant’s common stock outstanding as of July 30, 2004: 111,695,391 shares of Class A Common Stock and 3,275,012 shares of Class B Common Stock.

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q

ITEM 1: FINANCIAL STATEMENTS (UNAUDITED)

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES

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

Page 1

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES

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

Page 2

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES

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

Page 3

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES

NOTE 1. GENERAL

The accompanying unaudited interim condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission. The interim condensed consolidated financial statements include the consolidated accounts of Perot Systems Corporation and its majority-owned subsidiaries with all significant intercompany transactions eliminated. In our opinion, all adjustments (consisting only of normal recurring adjustments) necessary for a fair statement of the financial position, results of operations and cash flows for the interim periods presented have been made. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such SEC rules and regulations. These financial statements should be read in conjunction with the audited financial statements for the year ended December 31, 2003, in our Annual Report on Form 10-K/A filed with the SEC on August 3, 2004. Operating results for the three and six month periods ended June 30, 2004, are not necessarily indicative of the results for the year ending December 31, 2004.

Certain of the 2003 amounts in the accompanying financial statements have been reclassified to conform to the current presentation.

Stock-Based Compensation

As permitted by Statement of Financial Accounting Standard No. 123, “Accounting for Stock-Based Compensation,” and FAS 148, “Accounting for Stock-Based Compensation Transition and Disclosure,” we have elected to follow Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations in accounting for our employee stock options. Under APB 25, compensation expense is recorded when the exercise price of employee stock options is less than the fair value of the underlying stock on the date of grant. We have implemented the disclosure-only provisions of FAS 123 and FAS 148. Had we elected to adopt the expense recognition provisions of FAS 123, the impact on net income (loss) and earnings (loss) per common share would have been as follows:

Page 4

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

We utilize the Black-Scholes option pricing model to calculate our pro forma stock-based compensation expense, and the assumptions used for each period are as follows:

With the exception of grants with cliff vesting and acceleration features, the expected life of each grant was generally estimated to be a period equal to one half of the vesting period, plus one year, for all periods presented. The expected life for cliff vesting grants was equal to the vesting period, and the expected life for grants with acceleration features was estimated to be equal to the midpoint of the vesting period.

NOTE 2. ACQUISITIONS

Perot Systems TSI B.V.

In 1996, we entered into a joint venture with HCL Technologies whereby we each owned 50% of HCL Perot Systems B.V. (HPS), an information technology services company based in India. On December 19, 2003, we acquired HCL Technologies’ shares in HPS, and changed the name of HPS to Perot Systems TSI B.V. (TSI). This transaction was accounted for as a step acquisition under the purchase method of accounting. TSI is an IT services firm specializing in business transformation and application outsourcing. TSI currently serves customers in the United Kingdom, Singapore, Switzerland, Luxembourg, Germany, India, Thailand, Malaysia, Japan, Australia and the United States. As a result of the acquisition, we expanded the geographical areas in which we provide services and broadened our customer base in our application development service offering.

Because of the late December 2003 closing of this acquisition, the post-acquisition results of operations of TSI were not material to our consolidated results of operations for 2003. Therefore, to simplify the process of consolidating TSI, we continued to account for TSI’s results of operations using the equity method of accounting through December 31, 2003. The balance of our investment in TSI immediately prior to our consolidation of TSI on December 31, 2003, was $29,495.

The additional cash consideration paid for HCL Technologies’ interest in TSI was $98,848 (including acquisition costs and net of $12,667 of cash acquired). As of December 31, 2003, we consolidated the assets and liabilities of TSI. Accordingly, the TSI assets acquired and liabilities assumed are included in our consolidated balance sheets at December 31, 2003.

During the first quarter of 2004, we completed the appraisals of the acquired intangible assets. However, the allocation of TSI purchase consideration to the assets and liabilities acquired, including goodwill, as well as the allocation of goodwill to our reportable units, has not been completed primarily due to the pending completion of the valuation of certain tangible assets and certain liabilities. The estimated excess purchase price over net assets acquired of $66,277 was recorded as goodwill on the condensed consolidated balance sheets, was assigned to the Consulting segment and is not deductible for tax purposes.

Page 5

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

The following table summarizes the preliminary values assigned to the TSI assets acquired and liabilities assumed as of December 31, 2003, and the reversal of our historical investment balance.

Soza & Company, Ltd.

On February 20, 2003, we acquired all of the outstanding shares of Soza & Company, Ltd., and the purchase agreement provided for additional payments to be made in the future if certain financial targets were achieved. In the first quarter of 2004, we determined that Soza had achieved certain financial targets for 2003. As a result of achieving these targets and in accordance with the purchase agreement, we made additional payments of $6,298 in cash and $8,580 in 641 shares of our Class A Common Stock that resulted in us recording $14,878 of additional goodwill to the Government Services segment. This goodwill is not deductible for tax purposes. In addition, during the first quarter of 2004 we increased the values of certain tax assets that we had purchased in the Soza acquisition and reduced the amount of purchase price allocated to goodwill by $3,508.

ADI Technology Corporation

On July 1, 2002, we acquired all of the outstanding shares of ADI Technology Corporation, and the purchase agreement provided for additional payments to be made in the future if certain financial targets were achieved. In the first quarter of 2004, we determined that ADI had achieved certain financial targets for 2003. As a result of achieving these targets and in accordance with the purchase agreement, we made additional payments of $2,294 in cash and $2,325 in 175 shares of our Class A Common Stock that resulted in us recording $4,619 as additional goodwill. This goodwill was assigned to the Government Services segment and is not deductible for tax purposes.

NOTE 3. GOODWILL AND OTHER INTANGIBLE ASSETS

The changes in the carrying amount of goodwill for the six months ended June 30, 2004, by reporting segment are as follows:

Page 6

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

The adjustment to the TSI purchase price allocation of $6,082 relates primarily to the recording of identifiable intangible assets upon completion of the related intangible asset appraisals.

Identifiable intangible assets as of June 30, 2004, are recorded in other non-current assets in the condensed consolidated balance sheets and are composed of:

Total amortization expense for identifiable intangible assets was $2,494 and $5,013 for the three and six months ended June 30, 2004, and $876 and $1,583 for the three and six months ended June 30, 2003. Amortization expense is estimated at $9,942, $5,190, $3,995, $3,170, $2,233 and $486 for the years ended December 31, 2004 through 2009, respectively. Identifiable intangible assets are amortized on a straight-line basis over their estimated useful lives, ranging from 1 to 15 years. The weighted average useful life is approximately five years.

NOTE 4. COMPREHENSIVE INCOME (LOSS)

Total comprehensive income (loss), net of tax, was as follows:

NOTE 5. STOCKHOLDERS’ EQUITY

The components of “Other stockholders’ equity” were as follows:

At June 30, 2004, there were 111,579 shares of our Class A Common Stock outstanding and 3,275 shares of our Class B Common Stock outstanding. At December 31, 2003, there were 109,262 shares of our Class A Common Stock outstanding and 3,042 shares of our Class B Common Stock outstanding. The increase in the number of Class A Common Stock outstanding and the increase in additional paid-in capital are due to the exercise of stock options, the issuance of shares as additional purchase price consideration for certain acquisitions, and the issuance of shares to participants in the Employee Stock Purchase Plan.

Page 7

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

NOTE 6. INCOME TAXES

Our effective tax rate for the second quarter of 2004 was 36.7% and our effective tax rate for the six months ended June 30, 2004, was 37.0%. Our effective tax rate for income before cumulative effect of a change in accounting principle for the second quarter of 2003 and for the six months ended June 30, 2003, was 39.0%. The tax rate for the first six months of 2004 was lower than the rate in 2003 due primarily to foreign operations, including TSI. TSI has tax holidays in certain Asian jurisdictions, which exempt specific types of income from taxation.

NOTE 7. SEGMENT DATA

We offer our services under three primary lines of business, which are also reportable segments. These lines of business are IT Solutions, Government Services and Consulting. IT Solutions, our largest line of business, provides services to our customers primarily under long-term contracts in strategic relationships. These services include technology and business process services, as well as industry domain-based, short-term project and consulting services. The Government Services segment provides consulting and technology-based business process solutions for the Department of Defense, Department of Homeland Security, and other governmental agencies. The Consulting segment provides our customers high-value and repeatable services related to business and technical expertise and the design and implementation of business and software solutions, primarily under short-term contracts related to specific projects. “Other” includes our remaining operating areas and corporate activities, income and expenses that are not related to the operations of the other reportable segments, as well as the elimination of approximately $6,447 and $11,967 of intersegment revenue for the three and six months ended June 30, 2004, respectively, related to the provision of services by TSI (in the Consulting segment) to the other segments (for 2004 only).

The reporting segments follow the same accounting policies that we use for our consolidated financial statements. Segment performance is evaluated based on income (loss) before taxes, exclusive of income and expenses that are included in the “Other” category. All corporate and centrally incurred costs are allocated to the segments based principally on expenses, employees, square footage, or usage.

The following is a summary of certain financial information by reportable segment:

Page 8

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

Prior to the first quarter of 2004, our Global Software Services group was included in our Consulting segment. During the first quarter of 2004, we restructured this group which is now included in the IT Solutions segment. All prior period amounts have been adjusted to reflect this change.

During the second quarter of 2003, we recorded $17,676 of expense in direct cost of services associated with exiting an under-performing contract, which is included in the IT Solutions segment. In addition, we revised our estimates to complete our previous years’ streamlining efforts, resulting in a reduction in selling, general and administrative expenses of $5,415, which is included in the “Other” category.

NOTE 8. EARNINGS PER SHARE

The following chart is a reconciliation of the numerators and the denominators of the basic and diluted per share computations for income before the cumulative effect of a change in accounting principle.

Page 9

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

For the three and six months ended June 30, 2004, options to purchase 13,637 and 13,589 shares, respectively, of our common stock were excluded from the calculation of diluted earnings per common share because the impact was antidilutive given that the exercise prices for these options were higher than our average stock price for these periods. For the three and six months ended June 30, 2003, options to purchase 21,039 and 22,748 shares, respectively, of our common stock were excluded for the same reason as discussed above.

NOTE 9. CURRENT PORTION OF LONG-TERM DEBT

In June 2000, we entered into an operating lease contract with a variable interest entity for the use of land and office buildings in Plano, Texas, including a data center facility. As part of our adoption of Financial Accounting Standards Board Interpretation No. 46, “Consolidated Financial Statements,” we began consolidating this entity beginning on December 31, 2003. Upon consolidation, we recorded the long-term debt between the variable interest entity and the financial institutions (the lenders) of $75,498 as our long-term debt. The agreement matures in June 2005 with one optional two year extension. We are currently pursuing plans to restructure the agreement and consequently do not expect to exercise our option to extend the agreement. As a result, we have reclassified the amount outstanding of $75,498 from long-term debt to the current portion of long-term debt as of June 30, 2004.

NOTE 10. CREDIT FACILITY

On January 20, 2004, we entered into a revolving credit facility with a syndicate of banks that allows us to borrow up to $100,000. Borrowings under the credit facility will be either through revolving loans or letters of credit obligations. The credit facility is guaranteed by certain of our domestic subsidiaries. Interest on borrowings varies with usage and begins at an alternate base rate, as defined in the credit facility agreement, or the LIBOR rate plus an applicable spread based upon our debt/EBITDA ratio applicable on such date. We are also required to pay a facility fee based upon the unused credit commitment and certain other fees related to letter of credit issuance. The credit facility matures on January 19, 2007, and requires certain financial covenants, including a debt/EBITDA ratio, a minimum interest coverage ratio, a minimum capitalization ratio and a minimum current ratio, each as defined in the credit facility agreement. As of June 30, 2004, there have been no borrowings under this credit facility.

Page 10

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

NOTE 11. COMMITMENTS AND CONTINGENCIES

Litigation

We are involved in the following legal proceedings.

IPO Allocation Securities Litigation

In July and August 2001, we, as well as some of our current and former officers and the investment banks that underwrote our initial public offering, were named as defendants in two purported class action lawsuits. These lawsuits, Seth Abrams v. Perot Systems Corp. et al. and Adrian Chin v. Perot Systems, Inc. et al., were filed in the United States District Court for the Southern District of New York. The suits allege violations of Rule 10b-5, promulgated under the Securities Exchange Act of 1934, and Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. Approximately 300 issuers and 40 investment banks have been sued in similar cases. The suits against the issuers and underwriters have been consolidated for pretrial purposes in the IPO Allocation Securities Litigation. The lawsuit involving us focuses on alleged improper practices by the investment banks in connection with our initial public offering in February 1999. The plaintiffs allege that the investment banks, in exchange for allocating public offering shares to their customers, received undisclosed commissions from their customers on the purchase of securities and required their customers to purchase additional shares in aftermarket trading. The lawsuit also alleges that we should have disclosed in our public offering prospectus the alleged practices of the investment banks, whether or not we were aware that the practices were occurring. The plaintiffs are seeking unspecified damages, statutory compensation and costs and expenses of the litigation.

During 2002, the current and former officers and directors of Perot Systems Corporation that were individually named in the lawsuits referred to above were dismissed from the cases. In exchange for the dismissal, the individual defendants entered agreements with the plaintiffs that toll the running of the statute of limitations and permit the plaintiffs to refile claims against them in the future. In February 2003, in response to the defendant’s motion to dismiss, the court dismissed the plaintiffs’ Rule 10b-5 claims against us, but did not dismiss the remaining claims.

We have accepted a settlement proposal presented to all issuer defendants. Pursuant to the proposed settlement, plaintiffs would dismiss and release all claims against us and our current and former officers and directors, in exchange for an assurance by the insurance companies collectively responsible for insuring the issuers in all of the IPO cases that the plaintiffs will achieve a minimum recovery (including amounts recovered from the underwriters), and for the assignment or surrender of certain claims we may have against the underwriters. We would not be required to make any cash payment with respect to the settlement. The proposed settlement would also require court approval, which cannot be assured. The underwriters are opposing approval of the proposed settlement and have requested that, in the alternative, they receive a corresponding reduction in any judgment amounts that they may be ordered to pay if they are found liable in the actions.

Litigation Relating to the California Energy Market

In June 2002, we were named as a defendant in a purported class action lawsuit that alleges that we conspired with energy traders to manipulate the California energy market. This lawsuit, Art Madrid v. Perot Systems Corporation et al., was filed in the Superior Court of California, County of San Diego. The case is currently pending in the Superior Court for the County of Sacramento. The plaintiffs are seeking unspecified damages, treble damages, restitution, punitive damages, interest, costs, attorneys’ fees and declaratory relief. In September 2003, we filed a demurrer to the complaint and an alternative motion to strike all claims for monetary relief. In January 2004, the court granted our demurrer and did not grant the plaintiffs leave to amend their complaint. The plaintiffs, however, have filed a notice of appeal.

Page 11

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

In June, July and August 2002, Perot Systems, Ross Perot and Ross Perot, Jr., were named as defendants in eight purported class action lawsuits that allege violations of Rule 10b-5, and, in some of the cases, common law fraud. These suits allege that our filings with the Securities and Exchange Commission contained material misstatements or omissions of material facts with respect to our activities related to the California energy market. All of these eight cases have been consolidated in the Northern District of Texas, Dallas Division in the case of Vincent Milano v. Perot Systems Corporation. The plaintiffs in this case filed a consolidated amended complaint in July 2003. The plaintiffs are seeking unspecified monetary damages, interest, attorneys’ fees and costs. In October 2003, we moved to dismiss the amended complaint with prejudice. The plaintiffs have filed an opposition to our motion.

In 1997 and 1998, pursuant to a consulting contract with the California Independent Systems Operator, we assisted in implementing the operating systems for California’s newly deregulated wholesale electricity markets. The consolidated amended complaint in these federal court securities class actions alleges that the statements in our public filings and statements were fraudulently misleading, because we did not disclose to investors that (1) we allegedly advocated improper bidding practices to our customers in the California wholesale electricity markets and (2) in October 1997, the California ISO sent a letter to us accusing us of wrongfully using confidential information in our 1997-1998 marketing efforts.

Other

In addition to the matters described above, we have been, and from time to time are, named as a defendant in various legal proceedings in the normal course of business, including arbitrations, class actions and other litigation involving commercial and employment disputes. Certain of these proceedings include claims for substantial compensatory or punitive damages or claims for indeterminate amounts of damages.

In view of the inherent difficulty of predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, we cannot predict with certainty the eventual loss or range of loss related to such matters. We are contesting liability and/or the amount of damages, in each pending matter and believe, based on current knowledge and after consultation with counsel, that the outcome of these matters will not have a material adverse effect on our consolidated financial condition, although the outcome could be material to our operating results for a particular future period, depending on, among other things, the level of our income for such period.

We have purchased, and expect to continue to purchase, insurance coverage that we believe is consistent with coverage maintained by others in the industry. This coverage is expected to limit our financial exposure to claims covered by these policies in many cases.

Contract-related Contingency

During 2003 we exited an under-performing contract. As a result of the exiting of this contract, we determined that certain contract-related assets were impaired and additional expenses would be incurred related to the exiting of this contract, resulting in a loss of $17,676 that was recorded in the second quarter of 2003 in direct cost of services. This estimated loss represents our current estimate of the loss related to exiting this contract and is in addition to the loss of approximately $19,500 that we recorded in the first quarter of 2003 in our cumulative effect of a change in accounting principle upon adoption of EITF 00-21. We have filed a claim in arbitration to recover amounts we believe are due under this contract, and the other party filed counterclaims. Therefore, the amount of actual loss with respect to exiting this contract may vary from our current estimates.

Page 12

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

Purchase Commitment

We have an agreement with a telecommunication service provider to purchase services from, or sell services on behalf of, this provider having a gross value of $19,500 over a four-year commitment period. We entered into arbitration with this vendor in 2003 and had recorded a liability for our estimate of the unfulfilled minimum purchase commitment of $5,550 at December 31, 2003. The arbitration concluded in the first quarter of 2004, and based on the outcome, we recorded an additional liability of $3,273 through a charge to direct cost of services. The total liability recorded through the first quarter of 2004 of $8,823 relates to the unfulfilled minimum purchase commitment for the first three years of the commitment period, which ended on March 31, 2004. We currently expect to fulfill the minimum purchase commitment for the final year of the commitment period that ends on March 31, 2005.

Guarantees and Indemnifications

We have applied the disclosure provisions of FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees and Indebtedness of Others,” to our agreements that contain guarantee or indemnification clauses. FIN 45 requires us to disclose certain types of guarantee and indemnification arrangements, even if the likelihood of our being required to perform under these arrangements is remote. The following is a description of arrangements in which we are a guarantor, as defined by FIN 45.

We are a party to a variety of agreements under which we may be obligated to indemnify another party. Typically, these obligations arise in the context of contracts entered in the normal course of business under which we agree to hold the other party harmless against losses arising from certain matters, which may include death or bodily injury, loss of or damage to tangible personal property, improper disclosures of confidential information, infringement or misappropriation of copyrights, patent rights, trade secrets or other intellectual property rights, breaches of third party contract rights, and violations of certain laws applicable to our services, products or operations. The indemnity obligation in these arrangements is customarily conditioned on the other party making an adverse claim pursuant to the procedures specified in the particular contract, which procedures typically allow us to challenge the other party’s claims. The term of these indemnification provisions typically survives in perpetuity after the applicable contract terminates. It is not possible to predict the maximum potential amount of future payments under these or similar agreements, due to the conditional nature of our obligations and the unique facts and circumstances involved in each particular agreement. However, we have purchased and expect to continue to purchase a variety of liability insurance policies, which are expected, in most cases, to limit our financial exposure to claims covered by such policies (other than claims relating to the infringement or misappropriation of copyrights, patent rights, trade secrets or other intellectual property). In addition, we have not historically incurred material costs individually or in the aggregate to defend lawsuits or settle claims related to these indemnification provisions. As a result, we believe the likelihood of a material liability under these arrangements is remote. Accordingly, we have no significant liabilities recorded for these agreements as of June 30, 2004.

We include warranty provisions in substantially all of our customer contracts in the ordinary course of business. These provisions generally provide that our services will be performed in an appropriate and legal manner and that our products and other deliverables will conform in all material respects to specifications agreed between our customer and us. Our obligations under these agreements may be limited in terms of time or amount or both. In addition, we have purchased and expect to continue to purchase errors and omissions insurance policies, which are expected, in most cases, to limit our financial exposure to claims covered by such policies. Because our obligations are conditional in nature and depend on the unique facts and circumstances involved in each particular matter, we record liabilities for these arrangements only on a case by case basis when management determines that it is probable that a liability has been incurred. As of June 30, 2004, we have no significant liabilities recorded for warranty claims.

Page 13

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES

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

RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with our Condensed Consolidated Financial Statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K/A for the fiscal year ended December 31, 2003, and with the information under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K/A for the fiscal year ended December 31, 2003.

Overview of Our Financial Results for the Second Quarter of 2004

Our financial results are affected by a number of factors, including broad economic conditions, the amount and type of technology spending by our customers, and the business strategies and financial condition of our customers and the industries we serve, which could result in increases or decreases in the amount of services that we provide to our customers and the pricing of such services. Our ability to identify and effectively respond to these factors is important to our future financial and growth position.

We evaluate our consolidated performance on the basis of numerous performance indicators. The four key performance indicators we use are revenue growth, earnings growth, free cash flow for the period, and the value of contracts signed during the last twelve months. We compare these key performance indicators to both annual target amounts established by management and to our performance for prior periods. We establish the targets for these key performance indicators primarily on an annual basis, but we may revise them during the year. We assess our performance using these key indicators on a quarterly and annual basis.

Below is a summary of our financial results for the second quarter of 2004 as compared to the second quarter of 2003:

Page 14

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

Revenue Growth

Revenue growth is a measure of the growth we generate through new sales of services, retention of existing contracts, and discretionary services from existing customers. For the second quarter of 2004, revenue grew by 20.5% as compared to the second quarter of 2003. As discussed in more detail below, this revenue growth came primarily from the following:

•		Revenue from TSI, which we acquired in December 2003, as discussed below in “Acquisition of Perot Systems TSI B.V.”;
•		Revenue from new contracts signed during the twelve-month period following the second quarter of 2003;
•		An increase in revenue from an outsourcing contract signed during the first quarter of 2003 for which our services did not commence until June 2003; and
•		An increase in discretionary technology investments by our customers. We believe that economic conditions are improving, which is resulting in an increased level of technology investment by our customers.

Earnings Growth

We measure earnings growth using diluted earnings per share, which is a measure of our effectiveness in delivering profitable growth. For the second quarter of 2004, diluted earnings per share increased to $0.18 from $0.04 per share for the second quarter of 2003. As discussed in more detail below, this increase came primarily from:

•		Expenses in the second quarter of 2003 associated with exiting a customer contract, as discussed below in “Exiting of a Customer Contract”;
•		Income from TSI, which we acquired in December 2003;
•		An improvement in the profitability for certain fixed- and unit-priced outsourcing contracts that are less profitable at the outset of the contract, but are more profitable as we deliver planned efficiencies; and
•		Partially offsetting these increases in earnings were decreases to earnings from three major customer contracts and an increase in expense in 2004 for year-end bonuses to associates.

Free Cash Flow

We calculate free cash flow as net cash provided by operating activities less purchases of property, equipment and purchased software, as stated in our condensed consolidated statements of cash flows. We use free cash flow as a measure of our ability to generate cash for both our short-term and long-term operating and business expansion needs. Free cash flow for the first six months of 2004 was $4.1 million as compared to $(10.2) million for the first six months of 2003:

TCV of Contracts Signed

The amount of “Total Contract Value” (commonly referred to as TCV) that we sell during a certain twelve-month period is a measure of our success in capturing new business in the various outsourcing and consulting markets in which we provide services. We measure TCV as our estimate of the total expected revenue from new contracts with new customers and the total expected revenue from the new scope of services sold to existing customers, in each case where the contract is expected to generate revenue in excess of a defined amount during its contract term and the contract term exceeds a defined length of time. If a new contract

Page 15

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

does not meet the defined amount of revenue or length of term, it is not included in our TCV calculation.

Various factors may impact the timing of when a contract is signed, including the complexity of the contract, competitive pressures, and customer demands. As a result, we use a twelve-month period to measure our success in this area because of the significant variations that typically occur in the amount of TCV signed during each quarterly period. During the twelve-month period ending June 30, 2004, the amount of TCV signed was $770.9 million.

We continue to see prospective customers desiring fixed and per-unit pricing mechanisms for the billing of our outsourcing services. While these pricing mechanisms typically impact the initial profit margins on new contracts, they do not necessarily affect the overall expected profitability of new contracts.

Additional Measurements

Our three major lines of business are IT Solutions, Government Services, and Consulting. Each of these three major lines of business has distinct economic factors, business trends, and risks that could affect our results of operations. As a result, in addition to the four metrics discussed above that we use to measure our consolidated financial performance, we also closely monitor these key performance indicators for each of these lines of business and for certain industry groups and operating units within these lines of business.

Our Outsourcing Agreement with UBS

UBS is our largest customer. The outsourcing agreement with UBS that covers the substantial majority of our business with UBS expires on January 1, 2007. This agreement entitles us to recover our costs plus a fixed fee, with a bonus or penalty that can cause this annual fee to vary up and down by as much as 13%, depending on our level of performance as determined by UBS. We also provide additional project services to UBS. As a result, the revenue and gross profit that we derive from our UBS relationship depends on our performance and on the level of services we provide to UBS. The annual amount of gross profit that we have earned from UBS has ranged from $44.2 million to $50.2 million during the three years ended December 31, 2003. The expiration of the outsourcing agreement is expected to result in the loss of a substantial majority of the revenues and profits from UBS.

We have identified several operating efficiencies that we believe could reduce the negative impact on our operating income that is expected from the expiration of our UBS outsourcing agreement. These operating efficiencies include efficiencies from existing fixed- and unit-priced contracts and reductions in existing selling, general and administrative expenses.

Acquisition of Perot Systems TSI B.V.

As discussed in Note 2 to the condensed consolidated financial statements, “Acquisitions,” on December 19, 2003, we acquired HCL Technologies’ shares in HPS, and changed the name of HPS to Perot Systems TSI B.V. Because of the late December 2003 closing of this acquisition, the post-acquisition results of operations of TSI were not material to our consolidated results of operations for 2003. As a result, we continued to account for TSI’s results of operations using the equity method of accounting through December 31, 2003, and we consolidated the assets and liabilities of TSI as of December 31, 2003.

Change in Accounting Principle for Revenue Arrangements with Multiple Deliverables

We adopted EITF 00-21 effective January 1, 2003 for both existing and prospective customer contracts, which resulted in an expense in the first quarter of 2003 for the cumulative effect of a change in accounting principle of $69.3 million ($43.0 million, net of the applicable income tax benefit), or $0.38 per diluted share. This adjustment resulted primarily from the reversal of unbilled revenues associated with our long-term fixed price contracts that include construction-type services, as each such contract had been accounted

Page 16

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

for as a single unit of accounting using the percentage-of-completion method. This adjustment also includes approximately $19.5 million (approximately $12.1 million, net of the applicable income tax benefit), or $0.11 per diluted share, to recognize an estimated loss on a construction-type service included in a contract with multiple deliverables that we expected to be profitable in the aggregate over its term and that was previously accounted for as a single unit of accounting using the percentage-of-completion method, as discussed below under “Exiting of a Customer Contract.”

As a result of our adoption of EITF 00-21, we recognized revenues of approximately $0.8 million during each of the first two quarters of 2004 that were included in the cumulative effect of a change in accounting principle, which we recorded in the first quarter of 2003.

Exiting of a Customer Contract

In 2001, we entered into a long-term fixed-price IT outsourcing contract with a customer that included various non-construction services and a construction service, which was an application development project. In 2002, we began to expect that the actual cost to complete the application development project would exceed the cost estimate included in the contract with the customer. The contract provided for us to collect most of the excess of the actual cost over the cost estimate in the contract, but we expected the project to generate a loss because we did not expect to collect all of the excess of the actual cost over the cost estimate in the contract. However, we did not recognize a loss on the contract at that time. Prior to the adoption of EITF 00-21 we recorded revenue and profit on our fixed-price contracts which included both construction and non-construction services using the percentage-of-completion method of accounting. Therefore, because we expected that the contract would be profitable in the aggregate over its term, we did not recognize a loss on this contract in 2002.

As part of our adoption of EITF 00-21 in the first quarter of 2003, we were required to separate the deliverables in the contract into multiple units of accounting and recognized a net estimated loss on the application development project totaling approximately $19.5 million (approximately $12.1 million, net of the applicable income tax benefit), or $0.11 per diluted share, which was recorded as part of the cumulative effect of a change in accounting principle. The $19.5 million loss on the application development project is composed of two adjustments:

•		the reversal of $8.9 million of revenue and profit that was recognized prior to January 1, 2003, to adjust to the amount that would have been recorded if we had applied the percentage-of-completion method to this project separately; and
•		the recording of a future estimated loss of $10.6 million, which was calculated as the difference between the estimated amount that we expected to collect from the customer and the estimated costs to complete the application development project.

In the second quarter of 2003, we were unable to reach agreement with the customer on the timing and form of payment for the excess of the actual cost over the cost estimate in the contract. As a result, we exited this contract and recorded an additional $17.7 million of expense in direct cost of services in the second quarter of 2003, which consists of the following:

•		The impairment of assets related to this contract totaling $20.7 million, including the impairment of $14.7 million of long-term accrued revenue;
•		The accrual of estimated costs to exit this contract of $3.8 million; and
•		Partially offsetting the above expenses was the reversal of $6.8 million in accrued liabilities that had been recognized for future losses that we expected to incur to complete the application development project.

Page 17

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

We completed the services necessary to transition certain functions back to the client during the fourth quarter of 2003.

Comparison of the Three Months Ended June 30, 2004 and 2003

Revenue

Revenue for the second quarter of 2004 increased by $73.8 million, or 20.5%, to $433.8 million from revenue of $360.0 million for the second quarter of 2003 due to increases in revenue from the IT Solutions, Government Services and Consulting segments.

Revenue from the IT Solutions segment increased by $33.5 million, or 11.5%, to $323.6 million for the second quarter of 2004 from revenue of $290.1 million in the second quarter of 2003. This net increase was primarily attributable to:

•		$17.2 million increase from contracts signed during the twelve-month period following the second quarter of 2003. This revenue comes primarily from new contracts signed in the healthcare, manufacturing, and construction and engineering industries, and the services that we are providing to these new customers are primarily the same services that we provide to the majority of our other long-term outsourcing customers. During the past year, we have experienced increased demand for our services in the healthcare, manufacturing, and construction and engineering markets. Overall, the healthcare industry is in a state of change as health systems transform their clinical and administrative back-office operations, payer organizations work to develop new consumer-based health models, and as the rate of medical cost inflation continues to be high. These changes require increased system investment, which creates demand for our services. Because of the increased complexity associated with system changes and combined with a desire to focus on core functions, the healthcare outsourcing market has experienced increased levels of business. Within the manufacturing and construction and engineering markets, we have also experienced increased levels of business primarily as a result of customers’ continuing needs to reduce expense and to improve their operations.
•		$10.5 million increase associated with an outsourcing contract signed during the first quarter of 2003 with a customer in the healthcare industry for which we did not recognize a full quarter of revenue during the second quarter of 2003 because of the timing of the contract signing and subsequent contract start date. This contract was subject to regulatory approval before work could commence. We received that approval late during the second quarter of 2003.
•		$17.0 million net increase from existing accounts, short-term offerings, and project work. We typically provide services that are above our base level of services for our long-term customers. These services are typically discretionary in nature, and the amount of these services that we provide to our customers can vary from period-to-period depending on many factors, including specific customer and industry needs and economic conditions. The majority of this increase is related to contracts in the healthcare industry. As discussed above, the healthcare industry is in a state of change, which has created increased demand for discretionary investment that has resulted in additional project work. The level of discretionary investment in the other commercial markets we serve has not been as strong, primarily because of the economic state of those industries.
•		Partially offsetting these increases was a $11.2 million decrease in revenue associated with three major customer contract changes. As discussed above in “Exiting of a Customer Contract,” we exited an under-performing contract during the second quarter of 2003, resulting in a $7.1 million decrease in revenue for the second quarter of 2004 as compared to the prior year period. Additionally, we completed two major contract renewals that resulted in a revenue reduction of $4.1 million for the second quarter of 2004 as compared to the second quarter of 2003, primarily relating to reductions in price. Although pricing reductions were made on these two major contracts, the circumstances for these reductions differ for the two contract renewals. For one of these renewals, we were realizing

Page 18

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

higher than normal profit margins primarily because our contract pricing included the recovery of a significant investment that was made at the beginning of the contract. When the customer was acquired by another company, we signed a new long-term services agreement with a reduced scope of services, less up-front investment, and a corresponding reduction in price. For the second renewal, the customer agreed to enter into a long-term arrangement for services that we were performing on a short-term basis. Because of the long-term commitment, we have less risk on the contract, and we therefore reduced the price.

Revenue from the Government Services segment increased $10.0 million, or 17.1%, to $68.4 million for the second quarter of 2004 from $58.4 million for the second quarter of 2003. This increase is primarily attributable to new contracts and existing program expansion with the Department of Homeland Security, the Department of Defense, and civilian agencies of the federal government. For the contracts underlying this revenue increase, we are providing program management, administrative, professional and engineering services related to both a recently awarded program by the Department of Homeland Security and from existing programs where specific initiatives of the government required additional resources for the second quarter of 2004 as compared to the same period in the prior year. Our business with the federal government may fluctuate due to annual federal funding limits and the specific needs of the federal agencies we serve.

Revenue from the Consulting segment increased 263.5% to $41.8 million for the second quarter of 2004, net of the elimination of intersegment revenue of $6.4 million, from $11.5 million for the second quarter of 2003. This increase is primarily attributable to the acquisition of TSI, which contributed $28.8 million of revenue, net of the elimination of intersegment revenue of $6.4 million, for the second quarter of 2004. The remaining increase is attributable to increased revenue from technology and business consulting services, primarily attributable to an increased level of services related to the implementation of prepackaged software applications. These services are typically viewed as discretionary services by our customers with the level of business activity depending on many factors including economic conditions and specific customer needs.

Revenue from UBS, our largest customer, was $64.9 million for the second quarter of 2004, or 15.0% of revenue. This revenue is reported within the IT Solutions and Consulting lines of business and is summarized in the following table:

The increase in revenue from UBS for the Consulting line of business is due to the acquisition of TSI as discussed above.

Page  19

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

Gross Margin

Gross margin, which is calculated as gross profit divided by revenue, for the second quarter of 2004 was 20.4% of total revenue, which is higher than the gross margin for the second quarter of 2003 of 14.7% of total revenue. This year-to-year increase in gross margin is primarily due to the following:

•		As discussed above in “Exiting of a Customer Contract,” in the second quarter of 2003, we recorded $17.7 million of expense in direct costs of services associated with the exiting of this contract.
•		The acquisitions of TSI and Vision Healthsource increased gross margin by 1.8 percentage points. TSI and Vision were acquired during the twelve-month period following the second quarter of 2003 and typically realize higher gross margins than what we normally realize on traditional IT outsourcing contracts because of the nature of the services they provide, which are offshore business process outsourcing and application management services.

This year-to-year increase is also due to a slight increase in overall profitability for commercial customer contracts, particularly our fixed-price contracts for which the profitability tends to improve with the maturity of the contract as we develop operating efficiencies. Partially offsetting these increases were the three major customer contract changes discussed above, which reduced our gross margin by 0.9 percentage points, and an increase in expense of $6.6 million for year-end bonuses for the majority of the associates in our IT Solutions segment and associates in our corporate SG&A areas. We have several separate bonus plans for various associate groups within our Government Services and Consulting segments, and the impact on gross margin from the bonus expense recorded under these other plans did not differ significantly in the second quarter of 2004 as compared to the prior year period.

Selling, General and Administrative Expenses

Selling, general and administrative expenses for the second quarter of 2004 increased 16.0% to $54.5 million from $47.0 million for the second quarter of 2003. This increase is primarily attributable to the acquisition of TSI and additional costs associated with corporate compliance and business insurance, partially offset by reduced SG&A expenses primarily resulting from cost reductions made in 2003. During the second quarter of 2003, we recorded $3.3 million of expense in SG&A related to severance and other costs to eliminate approximately 150 positions in various business functions and geographic areas. In addition, we recorded a reduction of expense of $5.4 million resulting from revising our estimate of liabilities associated with actions in previous years to streamline our operations, which included a favorable resolution of an employment dispute. SG&A for the second quarter of 2004 was 12.6% of revenue, which is slightly lower than SG&A for the second quarter of 2003 of 13.1% of revenue primarily due to cost reductions made in 2003.

Other Statement of Operations Items

Interest expense for the second quarter of 2004 increased by $0.5 million as compared to the second quarter of 2003. This increase is primarily related to the debt we recorded on our consolidated balance sheet as of December 31, 2003, upon adoption of Financial Accounting Standards Board Interpretation No. 46, “Consolidation of Variable Interest Entities.”

During the second quarter of 2003, we recorded $1.5 million of income from our previous 50% equity in the earnings of TSI, which we consolidated on December 31, 2003, following the acquisition of HCL Technologies’ shares in TSI, as discussed above.

Page 20

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

Our effective tax rate for the second quarter of 2004 was 36.7%. Our effective tax rate for income before cumulative effect of a change in accounting principle for the second quarter of 2003 was 39.0%. The tax rate for the second quarter of 2004 was lower than the rate in 2003 due primarily to foreign operations, including TSI. TSI has tax holidays in certain Asian jurisdictions, which exempt specific types of income from taxation.

Comparison of the Six Months Ended June 30, 2004 and 2003

Revenue

Revenue for the six months ended June 30, 2004, increased by $157.2 million, or 22.6%, to $853.6 million from revenue of $696.4 million for the six months ended June 30, 2003, due to increases in revenue from the IT Solutions, Government Services and Consulting segments.

Revenue from the IT Solutions segment increased by $58.7 million, or 10.1%, to $638.5 million for the first six months of 2004 from revenue of $579.8 million in the first six months of 2003. This net increase was primarily attributable to:

•		$33.3 million increase from contracts signed during the twelve-month period following the second quarter of 2003. This revenue comes primarily from new contracts signed in the healthcare, manufacturing, and construction and engineering industries, and the services that we are providing to these new customers are primarily the same services that we provide to the majority of our other long-term outsourcing customers. During the past year, we have experienced increased demand for our services in the healthcare, manufacturing, and construction and engineering markets. Overall, the healthcare industry is in a state of change as health systems transform their clinical and administrative back-office operations, payer organizations work to develop new consumer-based health models, and as the rate of medical cost inflation continues to be high. These changes require increased system investment, which creates demand for our services. Because of the increased complexity associated with system changes and combined with a desire to focus on core functions, the healthcare outsourcing market has experienced increased levels of business. Within the manufacturing and construction and engineering markets, we have also experienced increased levels of business primarily as a result of customers’ continuing needs to reduce expense and to improve their operations.
•		$25.3 million increase associated with an outsourcing contract signed during the first quarter of 2003 with a customer in the healthcare industry for which we did not recognize a full quarter of revenue during the second quarter of 2003 because of the timing of the contract signing and subsequent contract start date. This contract was subject to regulatory approval before work could commence. We received that approval late during the second quarter of 2003.
•		$25.7 million net increase from existing accounts, short-term offerings, and project work. We typically provide services that are above our base level of services for our long-term customers. These services are typically discretionary in nature, and the amount of these services that we provide to our customers can vary from period-to-period depending on many factors, including specific customer and industry needs and economic conditions. The majority of this increase is related to contracts in the healthcare industry. As discussed above, the healthcare industry is in a state of change, which has created increased demand for discretionary investment that has resulted in additional project work. The level of discretionary investment in the other commercial markets we serve has not been as strong, primarily because of the economic state of those industries.
•		Partially offsetting these increases was a $25.6 million decrease in revenue associated with three major customer contract changes. As discussed above in “Exiting of a Customer Contract,” we exited an under-performing contract during the second quarter of 2003, resulting in a $15.8 million decrease in revenue for the first six months of 2004 as compared to the prior year period. Additionally, we completed two major contract renewals that resulted in a revenue reduction of $9.8 million for the first

Page 21

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

six months of 2004 as compared to the first six months of 2003, primarily relating to reductions in price. Although pricing reductions were made on these two major contracts, the circumstances for these reductions differ for the two contract renewals. For one of these renewals, we were realizing higher than normal profit margins primarily because our contract pricing included the recovery of a significant investment that was made at the beginning of the contract. When the customer was acquired by another company, we signed a new long-term services agreement with a reduced scope of services, less up-front investment, and a corresponding reduction in price. For the second renewal, the customer agreed to enter into a long-term arrangement for services that we were performing on a short-term basis. Because of the long-term commitment, we have less risk on the contract, and we therefore reduced the price.

Revenue from the Government Services segment increased $39.8 million, or 42.6%, to $133.2 million for the first six months of 2004 from $93.4 million for the first six months of 2003. This increase is primarily attributable to the acquisition of Soza & Company, Ltd. in February 2003 as we recognized approximately $21.8 million of additional revenue in the first quarter of 2004 resulting from a full quarter of revenue in our financial statements. The remaining year-to-year increase of $18.0 million is primarily attributable to new contracts and existing program expansion with the Department of Homeland Security, the Department of Defense, and civilian agencies of the federal government. For the contracts underlying this revenue increase, we are providing program management, administrative, professional and engineering services related to both a recently awarded program by the Department of Homeland Security and from existing programs where specific initiatives of the government required additional resources for the first six months of 2004 as compared to the same period in the prior year. Our business with the federal government may fluctuate due to annual federal funding limits and the specific needs of the federal agencies we serve.

Revenue from the Consulting segment increased 254.5% to $81.9 million for the first six months of 2004, net of the elimination of intersegment revenue of $12.0 million, from $23.1 million for the first six months of 2003. This increase is primarily attributable to the acquisition of TSI, which contributed $56.4 million of revenue, net of the elimination of intersegment revenue of $12.0 million, for the first six months of 2004. The remaining increase is attributable to increased revenue from technology and business consulting services, primarily attributable to an increased level of services related to the implementation of prepackaged software applications. These services are typically viewed as discretionary services by our customers with the level of business activity depending on many factors including economic conditions and specific customer needs.

Revenue from UBS, our largest customer, was $131.4 million for the first six months of 2004, or 15.4% of revenue. This revenue is reported within the IT Solutions and Consulting lines of business and is summarized in the following table:

The increase in revenue from UBS for the Consulting line of business is due to the acquisition of TSI as discussed above.

Page 22

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

Gross Margin

Gross margin, which is calculated as gross profit divided by revenue, for the six months ended June 30, 2004, was 20.3% of total revenue, which is higher than the gross margin for the six months ended June 30, 2003, of 16.8% of total revenue. This year-to-year increase in gross margin is primarily due to the following:

•		As discussed above in “Exiting of a Customer Contract,” in the second quarter of 2003, we recorded $17.7 million of expense in direct costs of services associated with the exiting of this contract.
•		The acquisitions of TSI and Vision Healthsource increased gross margin by 1.8 percentage points. TSI and Vision were acquired during the twelve-month period following the second quarter of 2003 and typically realize higher gross margins than what we normally realize on traditional IT outsourcing contracts because of the nature of the services they provide, which are offshore business process outsourcing and application management services.

This year-to-year increase is also due to a slight increase in overall profitability for commercial customer contracts, particularly our fixed price contracts for which the profitability tends to improve with the maturity of the contract as we develop operating efficiencies. Partially offsetting these increases were the three major customer contract changes discussed above, which reduced our gross margin by 1.0 percentage points, and an increase in expense of $9.0 million for year-end bonuses for the majority of the associates in our IT Solutions segment and associates in our corporate SG&A areas. We have several separate bonus plans for various associate groups within our Government Services and Consulting segments, and the impact on gross margin from the bonus expense recorded under these other plans did not differ significantly in the second quarter of 2004 as compared to the prior year period.

Selling, General and Administrative Expenses

Selling, general and administrative expenses for the six months ended June 30, 2004, increased 19.5% to $108.0 million from $90.4 million for the six months ended June 30, 2003. This increase is primarily attributable to the acquisitions of TSI and Soza and additional costs associated with corporate compliance and business insurance, partially offset by reduced SG&A expenses primarily resulting from cost reductions made in 2003. During the first six months of 2003, we recorded $3.3 million of expense in SG&A related to severance and other costs to eliminate approximately 150 positions in various business functions and geographic areas. In addition, we recorded a reduction of expense of $5.4 million resulting from revising our estimate of liabilities associated with actions in prior years to streamline our operations, which included a favorable resolution of an employment dispute. SG&A for the first six months of 2004 was 12.7% of revenue, which is slightly lower than SG&A for the first six months of 2003 of 13.0% of revenue primarily due to cost reductions made in 2003.

Other Statement of Operations Items

Interest expense for the six months ended June 30, 2004 increased by $1.0 million as compared to the six months ended June 30, 2003. This increase is primarily related to the debt we recorded on our consolidated balance sheet as of December 31, 2003, upon adoption of Financial Accounting Standards Board Interpretation No. 46, “Consolidation of Variable Interest Entities.”

During the six months ended June 30, 2003, we recorded $3.0 million of income from our previous 50% equity in the earnings of TSI, which we consolidated on December 31, 2003, following the acquisition of HCL Technologies’ shares in TSI, as discussed above.

Other income (expense), net, for the six months ended June 30, 2004 decreased to an expense of $0.3 million from income of $1.5 million for the six months ended June 30, 2003. This decrease is primarily due to the recognition of foreign exchange losses during the first six months of 2004 and the receipt of a $1.2

Page 23

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

million non-investment interest payment in the first six months of 2003, partially offset by the gains recorded from the sale of short-term investments held by TSI.

Our effective tax rate for the six months ended June 30, 2004 was 37.0%. Our effective tax rate for income before cumulative effect of a change in accounting principle for the six months ended June 30, 2003 was 39.0%. The tax rate for the first six months of 2004 was lower than the rate for the first six months of 2003 due primarily to foreign operations, including TSI. TSI has tax holidays in certain Asian jurisdictions, which exempt specific types of income from taxation.

LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of liquidity are cash flows from operations, available cash reserves, and debt capacity under a revolving credit facility. During the six months ended June 30, 2004, cash and cash equivalents increased 34.8% to $166.9 million from $123.8 million at December 31, 2003.

Net cash provided by operating activities was $18.6 million for the six months ended June 30, 2004, as compared to net cash provided by operating activities of $8.3 million for the six months ended June 30, 2003. Income before cumulative effect of a change in accounting principle, net of tax, increased for the first six months of 2004 to $40.6 million as compared to $19.8 million for the first six months of 2003. The following items also impacted our cash flow from operations in 2004 as compared to 2003:

•		Because we typically collect our accounts receivable within 50 to 60 days, our accounts receivable balance at the end of each quarterly period can change based on the amount of revenue for that quarter and the timing of collections from our customers, which can vary from period to period. The increase in accounts receivable in the first six months of 2004 of $32.5 million is greater than the increase in the first six months of 2003 of $17.2 million. This increase is primarily due to a $73.8 million increase in revenue for the second quarter of 2004 as compared to the second quarter of 2003, which is significantly higher than the $26.5 million revenue increase in the second quarter of 2003 as compared to the same period in 2002.
•		Year-end bonuses paid in 2004 primarily to associates in the IT Solutions segment and in our corporate SG&A operating areas increased as compared to 2003 by approximately $11.1 million. The amount of year-end bonuses that we record for each period is based on several factors, including our financial performance for the period and management’s discretion.
•		Net cash paid for income taxes for the first six months of 2004 increased by $20.0 million as compared to the prior year period, with net payments of $16.3 million in 2004 compared to net refunds of $3.7 million in 2003.
•		During the first six months of 2004 we increased our spending on deferred contract costs by approximately $15.2 million as compared to the first six months of 2003, which are included in other non-current assets on the condensed consolidated balance sheets.

Net cash provided from investing activities increased to $14.6 million for the six months ended June 30, 2004, as compared to net cash used of $104.0 million for the same period in 2003. This increase was due primarily to a $77.0 million decrease in the amount of net cash paid for acquisitions of businesses.

•		During the six months ended June 30, 2003, we paid $85.6 million (net of cash received) for acquisitions, including $72.8 million (net of cash received) for the acquisition of Soza and an additional $10.0 million for the acquisition of ARS.
•		During the six months ended June 30, 2004, we paid $8.6 million for acquisitions, including $6.3 million and $2.3 million as additional consideration related to the acquisitions of Soza and ADI, respectively.

Page 24

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

Additionally, we recorded $37.7 million of net proceeds from the sale of short-term investments relating to the conversion of TSI’s short-term investments to cash and cash equivalents during the six months ended June 30, 2004.

For the six months ended June 30, 2004, net cash provided by financing activities increased to $10.3 million compared to $3.3 million for the six months ended June 30, 2003. This increase is due primarily to an increase in the amount of cash received upon the exercise of options to purchase Class A Common Stock and from the purchases of stock through the Employee Stock Purchase Plan during the first six months of 2004 as compared to the period in 2003.

We routinely maintain cash balances in certain European and Asian currencies to fund operations in those regions. During the six months ended June 30, 2004, foreign exchange rate fluctuations negatively impacted our non-domestic cash balances by $0.4 million as the Euro and the Indian rupee weakened and the British pound strengthened against the U.S. dollar. Our foreign exchange policy does not call for hedging foreign exchange exposures that are not likely to impact net income or working capital.

On January 20, 2004, we entered into a revolving credit facility with a syndicate of banks that allows us to borrow up to $100.0 million. We anticipate that existing cash and cash equivalents and short-term investments, expected cash flows from operating activities, and the $100.0 million available under the revolving credit facility will provide us sufficient funds to meet our operating needs for the foreseeable future.

Current Portion of Long-Term Debt

In June 2000, we entered into an operating lease contract with a variable interest entity for the use of land and office buildings in Plano, Texas, including a data center facility. As part of our adoption of Financial Accounting Standards Board Interpretation No. 46, “Consolidated Financial Statements,” we began consolidating this entity beginning on December 31, 2003. Upon consolidation, we recorded the long-term debt between the variable interest entity and the financial institutions (the lenders) of $75.5 million as our long-term debt. The agreement matures in June 2005 with one optional two year extension. We are currently pursuing plans to restructure the agreement and consequently do not expect to exercise our option to extend the agreement. As a result, we have reclassified the amount outstanding of $75.5 million from long-term debt to the current portion of long-term debt as of June 30, 2004.

Purchase Commitment

We have an agreement with a telecommunication service provider to purchase services from, or sell services on behalf of, this provider having a gross value of $19.5 million over a four-year commitment period. We entered into arbitration with this vendor in 2003 and had recorded a liability for our estimate of the unfulfilled minimum purchase commitment of $5.6 million at December 31, 2003. The arbitration concluded in the first quarter of 2004, and based on the outcome, we recorded an additional liability of $3.2 million through a charge to direct cost of services. The total liability recorded through the first quarter of 2004 of $8.8 million relates to the unfulfilled minimum purchase commitment for the first three years of the commitment period, which ended on March 31, 2004. We currently expect to fulfill the minimum purchase commitment for the final year of the commitment period that ends on March 31, 2005.

FORWARD-LOOKING STATEMENTS

This quarterly report contains forward-looking statements. These statements relate to future events or our future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “could,” “forecasts,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” “see,” “target,” “projects,” “position,” or “continue” or the negative of such terms and other comparable terminology. These statements are only predictions. Actual events or results may differ materially. In evaluating all forward-looking statements, you should specifically consider

Page 25

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

various factors that may cause actual results to vary from those contained in the forward-looking statements, such as:

•		Our outsourcing agreement with UBS, the largest of our UBS agreements, ends in January 2007, which we expect to result in the loss of a substantial majority of revenue and profits from our UBS relationship.
•		Revenue and profit from our contract with UBS may substantially vary between periods because it depends on the amount and quality of the services we provide.
•		We may bear the risk of cost overruns under custom software development contracts, and, as a result, cost overruns could adversely affect our profitability.
•		Our five largest customers account for a substantial portion of our revenue and profits and loss of any of these customers could result in decreased revenues and profits.
•		If entities we acquire fail to perform in accordance with our expectations or if their liabilities exceed our expectations, our profits per share could be diminished and our financial results could be adversely affected.
•		Our software development products may cost more than we initially project, encounter delays, or fail to perform well in the market, which could decrease our profits.
•		Our financial results are materially affected by a number of factors, including broad economic conditions, the amount and type of technology spending that our customers undertake, and the business strategies and financial condition of our customers and the industries we serve, which could result in increases or decreases in the amount of services that we provide to our customers and the pricing of such services. Important to our future financial and growth position is our ability to identify and effectively respond to these factors.
•		The success of the implementation of planned operating efficiencies and cost cutting initiatives, and the timing and amount of any resulting benefits.
•		If we are unable to successfully integrate acquired entities, our profits may be less and our operations more costly or less efficient.
•		Our contracts generally contain provisions that could allow customers to terminate the contracts and sometimes contain provisions that enable the customer to require changes in pricing, decreasing our revenue and profits and potentially damaging our business reputation.
•		Some contracts contain fixed-price provisions or penalties that could result in decreased profits.
•		Fluctuations in currency exchange rates may adversely affect the profitability of our foreign operations.
•		Our international operations expose our assets to increased risks and could result in business loss or in more expensive or less efficient operations.
•		We have a significant business presence in India, and risks associated with doing business there could decrease our revenue and profits.
•		Governments could enact legislation that restricts the provision of services from offshore locations.
•		Our government contracts contain early termination and reimbursement provisions that may adversely affect our revenue and profits.
•		If customers reduce spending that is currently above contractual minimums, our revenues and profits could diminish.
•		If we fail to compete successfully in the highly competitive markets in which we operate, our business, financial condition, and results of operations will be materially and adversely affected.
•		Increasingly complex regulatory environments may increase our costs.
•		Our quarterly operating results may vary.
•		Loss of key personnel could adversely affect our ability to attract and retain business.
•		Changes in technology could adversely affect our competitiveness, revenue, and profit.
•		Ross Perot has substantial control over any major corporate action.
•		We could lose rights to our company name, which may adversely affect our ability to market our services.
•		Failure to recruit, train, and retain technically skilled personnel could increase costs or limit growth.
•		Alleged or actual infringement of intellectual property rights could result in substantial additional costs.

Page 26

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

•

Provisions of our certificate of incorporation, bylaws, stockholders’ rights plan and Delaware law could deter takeover attempts.

Please refer to our Annual Report on Form 10-K/A for the fiscal year ended December 31, 2003, as filed with the U.S. Securities and Exchange Commission and available at www.sec.gov, for additional information regarding risk factors. We disclaim any intention or obligation to revise any forward-looking statements whether as a result of new information, future developments, or otherwise.

Page 27

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004

ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

For a discussion of our market risk associated with foreign currencies as of December 31, 2003, see “Quantitative and Qualitative Disclosures about Market Risk” in Part II, Item 7A, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” of our Annual Report on Form 10-K/A for the fiscal year then ended. For the six months ended June 30, 2004, there has been no material change in related market risk factors.

ITEM 4: CONTROLS AND PROCEDURES

As of the end of the period covered by this report, an evaluation was carried out by our management, with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that these disclosure controls and procedures were effective.

There were no changes in internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) that occurred during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, internal control over financial reporting.

Page 28

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004

PART II: OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

We are involved in the following legal proceedings.

IPO Allocation Securities Litigation

In July and August 2001, we, as well as some of our current and former officers and the investment banks that underwrote our initial public offering, were named as defendants in two purported class action lawsuits. These lawsuits, Seth Abrams v. Perot Systems Corp. et al. and Adrian Chin v. Perot Systems, Inc. et al., were filed in the United States District Court for the Southern District of New York. The suits allege violations of Rule 10b-5, promulgated under the Securities Exchange Act of 1934, and Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. Approximately 300 issuers and 40 investment banks have been sued in similar cases. The suits against the issuers and underwriters have been consolidated for pretrial purposes in the IPO Allocation Securities Litigation. The lawsuit involving us focuses on alleged improper practices by the investment banks in connection with our initial public offering in February 1999. The plaintiffs allege that the investment banks, in exchange for allocating public offering shares to their customers, received undisclosed commissions from their customers on the purchase of securities and required their customers to purchase additional shares in aftermarket trading. The lawsuit also alleges that we should have disclosed in our public offering prospectus the alleged practices of the investment banks, whether or not we were aware that the practices were occurring. The plaintiffs are seeking unspecified damages, statutory compensation and costs and expenses of the litigation.

During 2002, the current and former officers and directors of Perot Systems Corporation that were individually named in the lawsuits referred to above were dismissed from the cases. In exchange for the dismissal, the individual defendants entered agreements with the plaintiffs that toll the running of the statute of limitations and permit the plaintiffs to refile claims against them in the future. In February 2003, in response to the defendant’s motion to dismiss, the court dismissed the plaintiffs’ Rule 10b-5 claims against us, but did not dismiss the remaining claims.

We have accepted a settlement proposal presented to all issuer defendants. Pursuant to the proposed settlement, plaintiffs would dismiss and release all claims against us and our current and former officers and directors, in exchange for an assurance by the insurance companies collectively responsible for insuring the issuers in all of the IPO cases that the plaintiffs will achieve a minimum recovery (including amounts recovered from the underwriters), and for the assignment or surrender of certain claims we may have against the underwriters. We would not be required to make any cash payment with respect to the settlement. The proposed settlement would also require court approval, which cannot be assured. The underwriters are opposing approval of the proposed settlement and have requested that, in the alternative, they receive a corresponding reduction in any judgment amounts that they may be ordered to pay if they are found liable in the actions.

Litigation Relating to the California Energy Market

In June 2002, we were named as a defendant in a purported class action lawsuit that alleges that we conspired with energy traders to manipulate the California energy market. This lawsuit, Art Madrid v. Perot Systems Corporation et al., was filed in the Superior Court of California, County of San Diego. The case is currently pending in the Superior Court for the County of Sacramento. The plaintiffs are seeking unspecified damages, treble damages, restitution, punitive damages, interest, costs, attorneys’ fees and declaratory relief. In September 2003, we filed a demurrer to the complaint and an alternative motion to strike all claims for monetary relief. In January 2004, the court granted our demurrer and did not grant the plaintiffs leave to amend their complaint. The plaintiffs, however, have filed a notice of appeal.

Page 29

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004

In June, July and August 2002, Perot Systems, Ross Perot and Ross Perot, Jr., were named as defendants in eight purported class action lawsuits that allege violations of Rule 10b-5, and, in some of the cases, common law fraud. These suits allege that our filings with the Securities and Exchange Commission contained material misstatements or omissions of material facts with respect to our activities related to the California energy market. All of these eight cases have been consolidated in the Northern District of Texas, Dallas Division in the case of Vincent Milano v. Perot Systems Corporation. The plaintiffs in this case filed a consolidated amended complaint in July 2003. The plaintiffs are seeking unspecified monetary damages, interest, attorneys’ fees and costs. In October 2003, we moved to dismiss the amended complaint with prejudice. The plaintiffs have filed an opposition to our motion.

In 1997 and 1998, pursuant to a consulting contract with the California Independent Systems Operator, we assisted in implementing the operating systems for California’s newly deregulated wholesale electricity markets. The consolidated amended complaint in these federal court securities class actions alleges that the statements in our public filings and statements were fraudulently misleading, because we did not disclose to investors that (1) we allegedly advocated improper bidding practices to our customers in the California wholesale electricity markets and (2) in October 1997, the California ISO sent a letter to us accusing us of wrongfully using confidential information in our 1997-1998 marketing efforts.

Other

In addition to the matters described above, we have been, and from time to time are, named as a defendant in various legal proceedings in the normal course of business, including arbitrations, class actions and other litigation involving commercial and employment disputes. Certain of these proceedings include claims for substantial compensatory or punitive damages or claims for indeterminate amounts of damages.

In view of the inherent difficulty of predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, we cannot predict with certainty the eventual loss or range of loss related to such matters. We are contesting liability and/or the amount of damages, in each pending matter and believe, based on current knowledge and after consultation with counsel, that the outcome of these matters will not have a material adverse effect on our consolidated financial condition, although the outcome could be material to our operating results for a particular future period, depending on, among other things, the level of our income for such period.

We have purchased, and expect to continue to purchase, insurance coverage that we believe is consistent with coverage maintained by others in the industry. This coverage is expected to limit our financial exposure to claims covered by these policies in many cases.

ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Perot Systems held its annual meeting of shareholders on May 12, 2004. The purpose of the meeting was to elect eight nominees to serve as directors of Perot Systems. The number of shares voted with respect to each nominee was as follows:

Page 30

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004

All of the nominees were elected to the Board of Directors. At the time of the shareholders meeting, these directors constituted the entire Board of Directors of Perot Systems.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a)

Exhibits required by Item 601 of Regulation S-K

(b)		Reports on Form 8-K
		On May 4, 2004, we furnished a Current Report on Form 8-K to report a press release. The matter was reported under Item 12 of Form 8-K.

* Filed herewith.
** Furnished herewith.

Page 31

PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	PEROT SYSTEMS CORPORATION (Registrant)
Date: August 3, 2004	By /s/ ROBERT J. KELLY
	Robert J. Kelly
	Corporate Controller and Principal Accounting Officer

Page 32