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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(x) Quarterly report pursuant to
Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended March 29, 2003
or
[ ] Transition report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Commission file number: 0-27617
THE MANAGEMENT NETWORK GROUP, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 48-1129619
- ------------------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
7300 COLLEGE BLVD., SUITE 302, OVERLAND PARK, KS 66210
------------------------------------------------------
(Address of principal executive offices) (Zip Code)
913-345-9315
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. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date.
As of May 1, 2003 TMNG had outstanding 33,383,297 shares of common stock.
THE MANAGEMENT NETWORK GROUP, INC.
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION:
ITEM 1. Consolidated Condensed Financial Statements:
Consolidated Condensed Balance Sheets - March 29, 2003
(unaudited) and December 28, 2002 .......................... 3
Consolidated Condensed Statements of Operations and
Comprehensive Loss (unaudited) - Thirteen weeks
ended March 29, 2003 and March 30, 2002 .................... 4
Consolidated Condensed Statements of Cash Flows
(unaudited) - Thirteen weeks ended March 29, 2003
and March 30, 2002 ......................................... 6
Notes to Consolidated Condensed Financial Statements
(unaudited) ................................................ 8
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations .............. 12
ITEM 3. Quantitative and Qualitative Disclosures About
Market Risk ................................................ 15
ITEM 4. Controls and Procedures ..................................... 15
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings ........................................... 15
ITEM 6. Exhibits and Reports on Form 8-K ............................ 15
Signatures............................................................ 15
Certifications........................................................ 16
Exhibits.............................................................. 18
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
THE MANAGEMENT NETWORK GROUP, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(In thousands, except share data)
(unaudited)
December 28, March 29,
2002 2003
------------ ------------
CURRENT ASSETS:
Cash and cash equivalents ................................ $ 53,786 $ 54,385
Receivables:
Accounts receivable .................................... 5,597 4,284
Accounts receivable - unbilled ......................... 4,232 3,923
------------ ------------
9,829 8,207
Less: Allowance for doubtful accounts .................. (471) (633)
------------ ------------
9,358 7,574
Deferred income taxes 494 645
Refundable income taxes 4,277 5,118
Prepaid and other assets ................................. 1,723 1,370
------------ ------------
Total current assets ........................... 69,638 69,092
------------ ------------
Property and Equipment, net ................................ 2,285 2,065
Goodwill .............................................. 31,308 31,308
Customer relationships, net 5,092 4,757
Identifiable intangible assets, net ........................ 2,362 2,006
Deferred tax assets ......................................... 14,272 13,904
Other assets ............................................... 502 452
------------ ------------
Total Assets ............................................... $ 125,459 $ 123,584
============ ============
CURRENT LIABILITIES:
Trade accounts payable ................................... $ 1,170 $ 820
Accrued payroll, bonuses and related expenses ............ 2,105 1,888
Other accrued liabilities ................................ 1,964 2,241
Unfavorable and capital lease obligations 921 973
------------ ------------
Total current liabilities ...................... 6,160 5,922
Unfavorable and capital lease obligations ............... 3,573 3,365
STOCKHOLDERS' EQUITY
Common Stock: ............................................ 33 33
Voting - $.001 par value, 100,000,000 shares authorized;
33,347,228 and 33,346,626 issued and outstanding on
December 28, 2002 and March 29, 2003, respectively
Additional paid-in capital ............................... 155,509 155,279
Accumulated deficit ...................................... (39,866) (41,097)
Accumulated other comprehensive income -
Foreign currency translation adjustment ................. 113 99
Unearned compensation .................................... (63) (17)
------------ ------------
Total stockholders' equity ...................... 115,726 114,297
------------ ------------
Total Liabilities and Stockholders' Equity ................. $ 125,459 $ 123,584
============ ============
See notes to consolidated condensed financial statements.
THE MANAGEMENT NETWORK GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS AND
COMPREHENSIVE LOSS
(In thousands, except per share data)
(unaudited)
For the Thirteen Weeks Ended
------------------------------
March 30, March 29,
2002 2003
--------- ---------
Revenues ............................... $ 7,268 $ 7,406
Cost of Services:
Direct cost of services .............. 3,674 3,682
Equity related charges (benefit) ..... 495 (20)
--------- ---------
Total cost of services ............. 4,169 3,662
--------- ---------
Gross Profit ........................... 3,099 3,744
Operating Expenses:
Selling, general and
administrative .................... 5,510 4,880
Depreciation and amortization 581 945
Equity related charges ............... 163 11
--------- ---------
Total operating expenses ........... 6,254 5,836
--------- ---------
Loss From Operations .......... (3,155) (2,092)
Other Income
Interest income ...................... 310 177
Other, net ........................... (11) (17)
--------- ---------
Total other income ................. 299 160
--------- ---------
Loss Before Income Tax Benefit And
Cumulative Effect of a Change in
Accounting Principle .................. (2,856) (1,932)
Income Tax Benefit ......... 1,191 701
--------- ---------
Loss Before Cumulative Effect of a
Change in Accounting Principle......... (1,665) (1,231)
Cumulative Effect of a Change in
Accounting Principle, Net of Tax
Benefit of $760 (1,140)
--------- ---------
Net Loss (2,805) (1,231)
Other Comprehensive Item -
Foreign currency translation
adjustment ......................... (33) (14)
--------- ---------
Comprehensive Loss ............ $ (2,838) $ (1,245)
========= =========
Loss Before Cumulative Effect of
a Change in Accounting Principle
Per Common Share
Basic and Diluted $ (0.05) $ (0.04)
========= =========
Cumulative Effect of a Change in
Accounting Principle Per Common Share
Basic and Diluted $ (0.04)
=========
Net Loss Per Common Share
Basic and Diluted $ (0.09) $ (0.04)
========= =========
Shares Used in Calculation of Loss
Before Cumulative Effect of a Change
in Accounting Principle and Net Loss
Per Common Share
Basic and Diluted ..................... 31,032 33,347
========= =========
For the period ended March 30, 2002, net loss and basic and diluted net loss per
common share differ from the amounts previously reported by the Company on Form
10-Q as filed with the Securities and Exchange Commission on May 13, 2002. The
Company had previously reported a net loss of $1,665 and a basic and diluted net
loss per common share of $0.05 for the thirteen weeks ended March 30, 2002,
compared to the net loss of $2,805 and basic and diluted net loss per common
share of $0.09 as shown above for the same period. The additional loss was
attributable to the Company's completion of the goodwill impairment test
required under SFAS No. 142 "Accounting for Goodwill and Intangible Assets"
during the second quarter of 2002. In accordance with the provisions of SFAS
142, the goodwill impairment loss was reported as a cumulative effect of a
change in accounting principle and retroactively recognized in the first quarter
of fiscal year 2002.
See notes to consolidated condensed financial statements.
THE MANAGEMENT NETWORK GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In thousands)
(unaudited)
For the Thirteen Weeks Ended
-------------------------------
March 30, March 29,
2002 2003
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ..................................... $ (2,805) $ (1,231)
Adjustments to reconcile net loss to net
cash provided by operating activities:
Cumulative change in accounting principle 1,900
Depreciation and amortization ...................... 581 945
Equity related charges (benefit) ................... 658 (9)
Income tax benefit (charge) recognized upon exercise
of stock options ...................... 24 (13)
Deferred income taxes ................ (866) 56
Loss on retirement of assets ...................... 140
Other changes in operating assets and
liabilities, net of business acquisitions:
Accounts receivable ........................... 2,481 1,475
Accounts receivable - unbilled ................ 260 309
Other assets .................................. 577 367
Refundable income taxes (1,027) (841)
Trade accounts payable ........................ 406 (350)
Accrued liabilities ........................... (693) 25
---------- ----------
Net cash provided by operating
activities ................................ 1,636 733
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of business, net of cash acquired ......... (30,797)
Acquisition of property and equipment ................. (89) (10)
---------- ----------
Net cash used in investing
activities ................................ (30,886) (10)
---------- ----------
CASH FLOWS FROM (USED IN) FINANCING ACTIVITIES:
Payments made on long-term obligations ................ (51) (122)
Proceeds from exercise of options .................... 190 12
---------- ----------
Net cash provided by (used in) financing
activities ............................... 139 (110)
---------- ----------
Effect of exchange rate on cash and cash
equivalents ............................................ (33) (14)
---------- ----------
Net increase (decrease) in cash and cash equivalents .... (29,144) 599
Cash and cash equivalents, beginning of period .......... 86,396 53,786
---------- ----------
Cash and cash equivalents, end of period ................ $ 57,252 $ 54,385
========== ==========
Supplemental disclosure of cash flow information:
Cash paid during period for interest .................... $ 11 $ 17
========== ==========
Cash paid during period for taxes ....................... $ 33 $ 98
========== ==========
Supplemental disclosure of non-cash investing and
financing transactions --
Fair value of assets acquired ....................... $ 53,764
Liabilities incurred or assumed ..................... $ (7,301)
Common stock issued ................................. $ 13,480
See notes to consolidated condensed financial statements.
THE MANAGEMENT NETWORK GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. Basis of Reporting
The accompanying consolidated condensed financial statements of The Management
Network Group, Inc. (the "Company") as of March 29, 2003, and for the thirteen
weeks ended March 29, 2003 and March 30, 2002, are unaudited and reflect all
normal recurring adjustments which are, in the opinion of management, necessary
for the fair presentation of the Company's consolidated condensed financial
position, results of operations, and cash flows as of these dates and for the
periods presented. The consolidated condensed financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information. Consequently, these
statements do not include all the disclosures normally required by accounting
principles generally accepted in the United States of America for annual
financial statements nor those normally made in the Company's annual report on
Form 10-K. Accordingly, reference should be made to the Company's annual report
on Form 10-K for additional disclosures, including a summary of the Company's
accounting policies.
Stock Based Compensation
During the thirteen weeks ended March 29, 2003, the Company granted
approximately 510,000 stock options to employees at a weighted average exercise
price of $1.42. During the same period, the Company recorded a net credit to
compensation expense of $9,000, attributable primarily to the forfeiture of
unvested stock options by employees, partially offset by the recognition of
compensation expense on pre-initial public offering grants of stock options.
During the thirteen weeks ended March 30, 2002, the Company granted
approximately 64,000 stock options to employees at a weighted average price of
$6.53 and recorded net compensation expense related to all stock options of
$227,000. The Company also recorded equity related charges of $431,000 during
the first quarter of 2002 for a previously issued warrant. The warrant was fully
amortized by the Company during the second quarter of fiscal 2002.
The Company utilizes an intrinsic value methodology in accounting for stock
based compensation for employees and certain non-employee directors in
accordance with the provisions of Accounting Principles Board Opinion ("APB")
No. 25, "Accounting for Stock Issued to Employees" and related Interpretations,
and accounts for stock-based compensation for non-employees utilizing a fair
value methodology in accordance with SFAS No. 123, "Accounting for Stock-Based
Compensation" as amended by SFAS No. 148 "Accounting for Stock Based
Compensation - Transition and Disclosure." If compensation cost for the
Company's APB 25 grants and the employee stock purchase plan had been determined
under SFAS No. 123, based upon the fair value at the grant date, consistent with
the Black-Scholes option pricing methodology, the Company's net loss for the
thirteen weeks ended March 30, 2002 and March 29, 2003 would have increased by
approximately $1.2 million and $0.7 million, respectively. For purposes of pro
forma disclosures required under the provisions of SFAS No. 123, as amended by
SFAS No. 148, the estimated fair value of options is amortized to pro forma
expense over the options' vesting period. The following table contains pro forma
information for the thirteen weeks ended March 30, 2002 and March 29, 2003 (in
thousands, except per share amounts):
THIRTEEN WEEKS ENDED
-------------------------------
MARCH 30, 2002 MARCH 29, 2003
-------------- --------------
Net loss, as reported: $(2,805) $(1,231)
Deduct: Incremental stock-based employee
compensation expense determined under fair
value based method for all awards, net of
related tax effects (1,236) (736)
-------------- --------------
Pro forma net loss $(4,041) $(1,967)
============== ==============
Loss per share
Basic and diluted, as reported $ (0.09) $ (0.04)
============== ==============
Basic and diluted, pro forma $ (0.13) $ (0.06)
============== ==============
2. Loss Per Share
The Company calculates and presents loss per share using a dual presentation of
basic and diluted loss per share. Basic loss per share is computed by dividing
net loss by the weighted average number of common shares outstanding for the
period. In accordance with the provisions of SFAS No. 128 "Earnings Per Share",
the Company has not included the effect of common stock options in the
calculation of diluted loss per share for the thirteen weeks ended March 30,
2002 and March 29, 2003 as the Company reported a loss from continuing
operations for both periods and the effect would have been antidilutive. The
weighted average shares of common stock outstanding for basic and diluted loss
per share for the thirteen weeks ended March 30, 2002 and March 29, 2003 were
31,032,000 and 33,347,000, respectively. Had the Company reported net income for
the thirteen weeks ended March 30, 2002 and March 29, 2003, the treasury method
of calculating common stock equivalents would have resulted in approximately
1,082,000 and 110,000 additional diluted shares, respectively.
3. Business Combinations
On March 6, 2002, TMNG purchased the business and primary assets of CSMG, a
Delaware corporation, of Boston, Massachusetts. CSMG provides high-end advisory
services to global communication service and equipment providers and investment
firms that provide capital to the industry. CSMG's range of business strategy
services include analyses of industry and competitive environments; product and
distribution strategies; finance, including business case development, modeling,
cost analysis and benchmarking; and due diligence and risk assessment. The
acquisition, recorded under the purchase method of accounting, resulted in a
total purchase price of approximately $46.5 million, of which approximately
$36.2 million was allocated to goodwill. Consideration consisted of $33.0
million cash and 2,892,800 shares of TMNG Common Stock valued at approximately
$13.5 million. Share consideration was calculated in accordance with the Asset
Purchase Agreement at a fixed price of $4.66 per share. All shares are
restricted from trading for one year from the closing. Additionally, the Company
incurred direct costs of approximately $2.3 million related to the acquisition
and recorded this amount as an increase to purchase price.
The operating results of CSMG have been included in the Consolidated Condensed
Statements of Operations and Comprehensive Loss from the date of the purchase.
The following reflects pro forma combined results of the Company and CSMG as if
the acquisition had occurred as of December 30, 2001. In management's opinion,
this pro forma information does not necessarily reflect the actual results that
would have occurred nor is it necessarily indicative of future results of
operations of the combined entities.
(in thousands, except per share amounts) March 30,
2002
-----------
Total revenues $ 9,495
Loss before cumulative effect of a change $ (1,896)
in accounting principle
Net loss $ (3,036)
Basic and diluted loss before cumulative
effect of a change in accounting principle
per common share $ (0.06)
Basic and diluted loss per common share $ (0.10)
The Company adopted the provisions of SFAS No. 142 "Accounting for Goodwill and
Intangible Assets" in connection with goodwill and other intangible assets
acquired in the purchase of The Weathersby Group, Inc., Tri-Com Computer
Services, Inc., and Cambridge Strategic Management Group, Inc. In accordance
with certain provisions of the Statement, goodwill has not been amortized
beginning in fiscal year 2002. Upon the adoption of SFAS No. 142, the Company
recorded a goodwill impairment loss related to the Management Consulting Segment
of approximately $1.9 million and has reflected this amount as a cumulative
change in accounting principle, net of tax benefit, in the Statement of
Operations and Comprehensive Loss. The Company did not acquire goodwill or
record goodwill impairment losses in the first quarter of fiscal 2003.
4. Contingencies
In June 1998, the bankruptcy trustee of a former client, Communications Network
Corporation, sued TMNG for a total of $320,000 in the U.S. Bankruptcy Court in
New York seeking recovery of $160,000 alleging an improper payment of consulting
fees paid by the former client during the period from July 1, 1996, when an
involuntary bankruptcy proceeding was initiated against the former client,
through August 6, 1996, when the former client agreed to an order for relief in
the bankruptcy proceeding, and $160,000 in consulting fees paid by the former
client after August 6, 1996.
The bankruptcy trustee has also sued TMNG for at least $1.85 million for breach
of contract, breach of fiduciary duties and negligence. Although assurance
cannot be given as to the ultimate outcome of this proceeding, TMNG believes the
Company has meritorious defenses to the claims made by the bankruptcy trustee,
including particularly the claims for breach of contract, breach of fiduciary
duty and negligence, and that the ultimate resolution of this matter will not
materially harm our business.
In 2002 the Company received demands aggregating approximately $1.2 million by
the bankruptcy trustees of several former clients in connection with collected
balances near the customers' respective bankruptcy filing dates. Although the
Company does not believe it received any preference payments from these former
clients and plans to vigorously defend its position, the Company has established
reserves of $886,000 which it believes are adequate in the event of loss or
settlement on such claims.
The Company may become involved in various legal and administrative actions
arising in the normal course of business. These could include actions brought by
taxing authorities challenging the employment status of consultants utilized by
the Company. In addition, customer bankruptcies could result in additional
claims on collected balances for professional services near the bankruptcy
filing date. While the resolution of any of such actions, claims, or the matters
described above may have an impact on the financial results for the period in
which it is resolved, the Company believes that the ultimate disposition of
these matters will not have a material adverse effect upon its consolidated
results of operations, cash flows or financial position.
5. Loans to Officers
During the third quarter of fiscal year 2001, three executive officers of the
Company received stock options at fair market value in lieu of receiving their
cash base compensation, which subsequently resumed in the first quarter of
fiscal year 2002. To assist in meeting the cash flow needs of the officers who
reduced their compensation, the Company provided lines of credit, collateralized
by Company common stock held by such officers. In June 2002, one of the officers
retired from the Company, and his line of credit was cancelled. The maximum
aggregate amount available for borrowing under the loan agreements between the
two remaining officers and the Company is $1,050,000. Aggregate borrowings
against the lines of credit at March 30, 2002 and March 29, 2003 totaled
$200,000 and $300,000, respectively. In accordance with the loan provisions, the
interest rate charged on the loans is equal to the Applicable Federal Rate
(AFR), as announced by the Internal Revenue Service, for short-term obligations
(with annual compounding) in effect for the month in which the advance is made,
until fully paid. Pursuant to the Sarbanes-Oxley Act, no further loan agreements
may be made by the Company to or arranged by the Company for its executive
officers.
6. Business Segments
The Company has identified its segments based on the way management organizes
the Company to assess performance and make operating decisions regarding the
allocation of resources.
Based on an analysis of the criteria in SFAS No. 131 "Disclosure about Segments
of an Enterprise and Related Information," the Company has concluded it has five
operating segments, of which four are aggregated in one reportable segment, the
Management Consulting Services segment, and the remaining segment in All Other.
Management Consulting Services includes business strategy and planning,
marketing and customer relationship management, operating system support,
revenue assurance, corporate investment services, networks, and business model
transformation. All Other consists of computer hardware commissions and rebates
received in connection with the procurement of hardware for third parties. The
accounting policies for the segments are the same as those described in the
summary of significant accounting policies. Management evaluates segment
performance based upon Loss from Operations, excluding equity related charges
(benefits) and intangibles amortization. There are no intersegment sales.
Summarized financial information concerning the Company's reportable segments is
shown in the following table (amounts in thousands):
-----------------------------------------------------------------------
Management All Not Assigned
Consulting Services Other to Segments Total
------------------- --------- ------------- ---------
For the thirteen weeks ended March 30, 2002:
Net sales to external customers $ 7,074 $ 194 $ 7,268
Loss from operations $ (2,113) 8 $ (1,050) $ (3,155)
Total assets $ 11,406 $ 136,324 $ 147,730
For the thirteen weeks ended March 29, 2003:
Net sales to external customers $ 7,240 $ 166 $ 7,406
Loss from operations $ (1,504) $ 118 $ (706) $ (2,092)
Total assets $ 7,769 $ 11 $ 115,804 $ 123,584
Segment assets, regularly reviewed by management as part of its overall
assessment of the segments' performance, include both billed and unbilled trade
accounts receivable, net of allowances, and certain other assets. Assets not
assigned to segments include cash and cash equivalents, property and equipment,
goodwill and intangible assets and deferred tax assets, excluding deferred tax
assets recognized on accounts receivable reserves, which are assigned to their
respective segment.
Reconciling information between reportable segments and the Company's totals is
shown in the following table (amounts in thousands):
THIRTEEN WEEKS ENDED
--------------------------------------
March 30, 2002 March 29, 2003
-------------- --------------
Operating losses
Total operating losses for
reportable segments $(2,105) $(1,386)
Equity related charges (benefits) (658) 9
Intangibles amortization (392) (715)
-------------- --------------
Loss from operations $(3,155) $(2,092)
============== ==============
7. Customer Relationships and Other Identifiable Intangible Assets
Included in the Company's consolidated balance sheet as of the end of the latest
fiscal year end, December 28, 2002, and the end of the first quarter, March 29,
2003, are the following identifiable intangible assets (amounts in thousands):
December 28, 2002 March 29, 2003
------------------------ ------------------------
Accumulated Accumulated
Cost Amortization Cost Amortization
------- ------------ ------- ------------
Customer relationships $ 6,790 $(1,698) $ 6,790 $(2,033)
Employment agreements 3,200 (1,042) 3,200 (1,354)
Tradename 350 (146) 350 (190)
Covenant not to compete 203 (132) 203 (156)
------- ------- ------- -------
Total $10,543 $(3,018) $10,543 $(3,733)
======= ======= ======= =======
Intangible amortization expense for the thirteen weeks ended March 30, 2002 and
March 29, 2003 was $392,000 and $715,000, respectively. Intangible amortization
expense is estimated to be approximately $2.8 million for fiscal year 2003, $2.2
million in fiscal year 2004, $1.3 million in fiscal year 2005, $1.0 million in
fiscal year 2006 and $0.2 million in fiscal year 2007.
8. Significant Customer Contracts
On December 10, 1999, the Company entered into a consulting services agreement
with a significant customer under which such customer committed to $22 million
of consulting fees over a three-year period commencing January 1, 2000. The
agreement was extended in April 2002 for two additional years beyond the
original term of the agreement, in exchange for an expanded preferred contractor
relationship and immediate commitment to a significant consulting arrangement.
As of March 29, 2003, $16.4 million of consulting fees had been recognized in
connection with the agreement from the commencement date.
In August 2002, the Company entered into a gain sharing consulting services
agreement with a significant customer, under which the Company earns revenue
based upon project success as contractually defined. Due to the contingent
nature of this project, all project costs have been expensed as incurred, due to
the lack of an indication that an economic resource has been created.
Additionally, the Company has not recognized any revenue on the project as of
March 29, 2003, as the revenue is not realizable or earned at this time. Total
project cost recognized in loss from operations on the Company's Consolidated
Condensed Statement of Operations and Comprehensive Loss for the first quarter
of fiscal 2003 in connection with the project was approximately $83,000. Total
costs recognized on the project from inception total $494,000.
9. Letter of Credit
In March 2002, the Company entered into a $1.0 million standby letter of credit
("LOC") facility with a financial institution in connection with the Cambridge
Strategic Management Group, Inc. ("CSMG") acquisition. The LOC was required as
part of the assignment of the leased office space from CSMG to the Company. The
LOC was collateralized by the Company with a $1.0 million cash deposit to the
above financial institution. The LOC provides for reduction dates of the amount
deposited with the financial institution during the LOC term as follows (amounts
in thousands):
Reduction Date Amount
----------------- -------
5/15/02 - 5/15/03 $886
5/15/03 - 5/15/04 $633
5/15/04 - 5/15/05 $380
5/15/05 - 2/28/11 $273
The Company would be required to perform under the agreement in the event it was
to default on balances due and owing the landlord on the leased office space.
This amount is included in "Cash and Cash Equivalents" on the Company's
consolidated condensed balance sheet as of March 29, 2003. An obligation has not
been recorded in connection with the LOC on the Company's consolidated condensed
balance sheet as of March 29, 2003.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
In addition to historical information, this quarterly report contains
forward-looking statements. Certain risks and uncertainties could cause actual
results to differ materially from those reflected in such forward-looking
statements. Factors that might cause a difference include, but are not limited
to, those discussed in the sections entitled "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and "Business - Risk
Factors" in the Company's annual report on Form 10-K for the fiscal year ended
December 28, 2002. Readers are cautioned not to place undue reliance on these
forward-looking statements, which reflect management's opinions only as of the
date of this report. We undertake no obligation to revise, or publicly release
the results of any revision to, these forward-looking statements. Readers should
carefully review the risk factors described in our annual report and in other
documents that we file from time to time with the Securities and Exchange
Commission.
The following should be read in connection with Management's Discussion and
Analysis of Financial Condition and Results of Operations as presented in the
Company's annual report on Form 10-K for the fiscal year ended December 28,
2002.
CRITICAL ACCOUNTING POLICIES
While the selection and application of any accounting policy may involve some
level of subjective judgments and estimates, we believe the following accounting
policies are the most critical to our consolidated financial statements,
potentially involve the most subjective judgments in their selection and
application, and are the most susceptible to uncertainties and changing
conditions:
- - Allowance for Doubtful Accounts
- - Fair Value Accounting of Acquired Businesses
- - Impairment of Goodwill and Other Intangible Assets
- - Revenue Recognition
- - Deferred Income Tax Assets
Allowance for Doubtful Accounts - Substantially all of our receivables are owed
by companies in the communications industry. We typically bill customers for our
services after all or a portion of the services have been performed and require
customers to pay immediately. We attempt to control our credit risk by being
diligent in credit approvals, limiting the amount of credit extended to
customers and monitoring our customers' payment record and credit status as work
is being performed for them.
We recorded bad debt expense in the amount of $200,000 and $500,000 for the
first quarter of fiscal years 2003 and 2002, respectively, and our allowance for
doubtful accounts totaled $633,000 and $1,008,000 at the end of the first
quarter of fiscal years 2003 and 2002, respectively. The calculation of these
amounts is based on our judgment about the anticipated default rate on
receivables owed to us as of the end of the reporting period. That judgment was
based on our uncollected account experience in prior years and our ongoing
evaluation of the credit status of our customers and the communications industry
in general.
We have endeavored to mitigate our credit risk by concentrating our marketing
efforts on the largest and most stable companies in the communications industry
and by tightly controlling the amount of credit provided to customers. If we are
unsuccessful in these efforts, or if more of our customers file for bankruptcy
or experience financial difficulties, it is possible that our allowance for
doubtful accounts will be insufficient and we will have a greater bad debt loss
than the amount we reserved, which would adversely affect our cash flow and
financial performance.
Fair Value of Acquired Businesses - TMNG has acquired three professional service
organizations over the last three years. A significant component of the value of
these acquired businesses has been allocated to intangible assets. The Financial
Accounting Standards Board ("FASB") issued SFAS No. 141 which requires acquired
businesses to be recorded at fair value by the acquiring entity. SFAS No. 141
also requires that intangible assets that meet the legal or separable criterion
be separately recognized on the financial statements at their fair value, and
provides guidance on the types of intangible assets subject to recognition.
Determining the fair value for these specifically identified intangible assets
involves significant professional judgment, estimates and projections related to
the valuation to be applied to intangible assets like customer lists, employment
agreements and tradenames. Specifically, the FASB issued EITF No. 02-17
"Recognition of Customer Relationship Intangible Assets Acquired in a Business
Combination" in 2002 which provided an expanded definition of how to value
customer relationships and includes not only the current backlog of an acquired
entity, but also the expectations of future revenues resulting from current
customer relationships. In accordance with the provisions of EITF No. 02-17,
management has made estimates and assumptions regarding projected future
revenues resulting from the customer relationships acquired in our acquisitions.
The subjective nature of management's assumptions adds an increased risk
associated with estimates surrounding the projected performance of the acquired
entity. Additionally, as the Company amortizes the intangible assets over time,
the purchase accounting allocation directly impacts the amortization expense we
record on our financial statements.
Impairment of Goodwill and Other Intangible Assets - Goodwill and other
intangible assets arising from our acquisitions, as discussed above, are
subjected to periodic review for impairment. SFAS No. 142 requires an annual
evaluation at the reporting unit level of the fair value of goodwill and
compares the calculated fair value of the reporting unit to its book value to
determine whether an impairment has been deemed to occur. Any impairment charge
would be based on the most recent estimates of the recoverability of the
recorded goodwill and intangibles balances. If the remaining book value assigned
to goodwill and other intangible assets acquired in an acquisition is higher
than the amounts the Company currently would expect to realize based on updated
financial and cash flow projections from the reporting unit, there is a
requirement to write down these assets. The Company recorded goodwill impairment
charges in fiscal year 2002 in accordance with the provisions of SFAS No. 142.
Revenue Recognition - Historically, most of our consulting practice contracts
have been on a time and material basis, in which customers are billed for time
and materials expended in performing their contracts. We have recognized revenue
from those types of customer contracts in the period in which our services are
performed.
As we continue to adapt to changes in the communications consulting industry, we
have elected to enter into more fixed fee contracts in which revenue is based
upon delivery of services or solutions, and contingent fee contracts, in which
revenue is subject to achievement of savings or other agreed upon results,
rather than time spent. Both of these types of contracts are typically more
results-oriented and are subject to greater risk associated with revenue
recognition and overall project profitability than traditional time and
materials contracts. Due to the nature of fixed fee and contingent fee
contracts, the amount and timing of revenue recognized may be subject to
adjustment or deferral, and additional costs and effort as compared to what was
originally planned may need to be expended to fulfill delivery requirements on
such contracts, which could adversely affect our consolidated financial
position, results of operations and liquidity.
Deferred Income Tax Assets - The Company has generated substantial deferred tax
assets primarily from the accelerated financial statement write-off of goodwill
and the charge to compensation expense taken related to stock options. For the
Company to realize the income tax benefit of these assets, it must generate
sufficient taxable income in future periods when such deductions are allowed for
income tax purposes. In assessing whether a valuation allowance is needed in
connection with the Company's deferred income tax assets, management has
evaluated the ability of the Company to carryback tax losses to prior years that
reported positive taxable income, and the ability of the Company to generate
sufficient taxable income in future periods to utilize the benefit of the
deferred income tax assets. Such projections of future taxable income require
significant judgments and estimates by the Company. As of March 29, 2003,
valuation allowances were not established in connection with the deferred income
tax assets. In future periods, if the Company does not believe it will be able
to recognize the benefits of the deferred income tax assets, an impairment of
the deferred income tax assets will be recorded, resulting in a charge to net
income.
RESULTS OF OPERATIONS
THIRTEEN WEEKS ENDED MARCH 29, 2003 COMPARED TO THIRTEEN WEEKS ENDED MARCH 30,
2002
REVENUES
Revenues increased 1.9% to $7.4 million for the first quarter of fiscal year
2003 from $7.3 million for the first quarter of fiscal year 2002. The increase
in revenues was due primarily to the inclusion of the revenue of TMNG Strategy,
Inc. ("TMNG Strategy" or "CSMG") for the entire quarter versus one month, which
was acquired by the Company in March 2002, offset by a reduction of management
consulting demand by the communications and technology industry resulting
primarily from adverse macroeconomic events in the communications industry,
including continued reductions in capital funding, business failures, and
industry restructurings and reorganizations. Additionally, our international
revenue base decreased to 4.6% of our revenues in the first quarter of fiscal
year 2003, from 5.9% in the first quarter of 2002, due primarily to the domestic
revenue generated by our recently acquired subsidiary, TMNG Strategy and the
decline in services provided to international customers related to similar
adverse macroeconomic events in those markets. TMNG Strategy revenues for the
first quarter of 2003 represented 38.8% of consolidated revenues, compared to
20.4% of consolidated revenues for the period beginning March 6, 2002
(Acquisition Date) through the end of the first quarter of fiscal year 2002.
Non-consulting revenues recognized by TMNG Technologies represented 2.2% and
1.8% of consolidated revenues for the first quarters of fiscal year 2003 and
2002, respectively, and related to commissions received on hardware sales.
COSTS OF SERVICES
Direct costs of services remained constant at $3.7 million for the first quarter
of fiscal years 2003 and 2002. As a percentage of revenues, our gross margin
based on direct cost of services was 50.3% for the first quarter of fiscal year
2003, compared to 49.4% for the first quarter of fiscal year 2002. The increase
in gross margin was primarily attributable to the increased percentage of
revenues in the first quarter of 2003 attributable to strategy offerings,
offsetting the impact of lower utilization of consulting personnel and thus
correspondingly lower margins, which resulted from lower consulting contract
activity.
Non-cash stock based compensation benefits were $20,000 for the first quarter of
fiscal year 2003, compared to charges of $495,000 for the first quarter of
fiscal year 2002. The primary reasons for the net decrease in non-cash stock
based compensation charges for the first quarter of fiscal year 2003 compared to
the same period in fiscal year 2002 were the reduction in amortization charges
of a warrant in the amount of $431,000 and the net reduction in amortization
charges related to the pre-initial public offering grants of stock options.
Non-cash stock based compensation charges are recognized by the Company over a
period of three to four years, based on an accelerated vesting schedule.
Substantially all of the options giving rise to the equity related charges are
in their respective fourth and final year of vesting, and therefore continue to
have less impact on the Company's Statement of Operations and Comprehensive
Loss. These net benefits decreased costs of services as a percentage of revenue
by 0.3% for the first quarter of fiscal year 2003. Non-cash stock based
compensation charges increased costs of services as a percentage of revenue by
6.8% for the first quarter of fiscal year 2002.
OPERATING EXPENSES
In total, operating expenses decreased to $5.8 million for the first quarter of
fiscal year 2003, or 6.7% from $6.3 million for the first quarter of fiscal year
2002. The major component of the $418,000 net decrease in operating expenses was
a $630,000 decrease in selling, general and administrative expenses related to
cost reduction measures initiated by management during fiscal year 2002,
including the consolidation of fixed costs associated with our TMNG Strategy and
TMNG Technologies acquisitions, and a reduction of sales, marketing and
administrative headcount. The net decrease was offset by a $364,000 increase in
amortization and depreciation incurred in connection with intangible assets
acquired primarily in the TMNG Strategy acquisition. As a percentage of
revenues, selling, general and administrative expenses decreased to 65.9%
compared to 75.8% for the first quarter of fiscal year 2003 and 2002,
respectively.
In addition, non-cash stock based compensation charges of $11,000 and $163,000
for the first quarter of fiscal years 2003 and 2002, respectively, were recorded
in connection with stock options granted to our partners, principals and certain
senior executives and non-employee directors. These charges increased operating
expenses as a percentage of revenue by 0.1% and 2.2% for the first quarter of
fiscal year 2003 and fiscal year 2002, respectively. The $152,000 decrease in
non-cash stock based compensation charges for the first quarter of fiscal year
2003 compared to the first quarter of fiscal year 2002 was a result of the
reduction in the amortization of the deferred compensation charges recorded in
connection with pre-initial public offering grants of non-qualified stock
options based on the accelerated vesting schedule discussed above in "Cost of
Services."
OTHER INCOME AND EXPENSES
Interest income was $177,000 and $310,000 for the first quarter of fiscal years
2003 and 2002, respectively, and represented interest earned on invested
balances. Interest income decreased during the first quarter of fiscal year 2003
due to lower invested balances resulting from a reduction in cash reserves and
lower interest rate returns from fiscal year 2002 to fiscal year 2003. We invest
in short-term, high-grade investment instruments as part of our overall
investment policy.
INCOME TAXES
In general, the Company records an income tax benefit at a blended Federal and
state statutory income tax rate of 40.3%. Income tax benefit for the first
quarter of fiscal 2003 and 2002 as a percentage of pretax loss was 36.3% and
41.7%, respectively. The primary reason for the variance between the effective
and statutory income tax rates in 2003 relates to a portion of the reported
intangible asset amortization not deductible for Federal income tax purposes.
The primary reason for the variance in 2002 was the earnings reported on
short-term investments in Federally tax-exempt income securities not taxable for
Federal income tax purposes.
CUMULATIVE CHANGE IN ACCOUNTING PRINCIPLE
A cumulative change in accounting principle in the amount of $1.9 million was
recorded during fiscal year 2002 in connection with the Company's estimate of
goodwill impairment. The impairment was calculated in accordance with the
provisions of SFAS No. 142 "Accounting for Goodwill and Intangible Assets" and
has been reported on the Company's Statement of Operations and Comprehensive
Loss, net of tax benefit, in the amount of $1.1 million for the period ending
March 30, 2002.
LIQUIDITY AND CAPITAL RESOURCES
At March 29, 2003, we had approximately $54.4 million in cash and cash
equivalents. TMNG believes it has sufficient cash to meet anticipated cash
requirements, including anticipated capital expenditures, consideration for
possible acquisitions, and any continuing operating losses, for at least the
next 12 months. The Company has established a flexible model that provides a
lower fixed cost structure which enables TMNG to scale operating cost structures
more quickly based on market conditions. Although the Company is well positioned
because of its cash reserves to weather continuing adverse conditions in the
communications industry for a period of time, if the industry and demand for
consulting services do not rebound in the foreseeable future and we begin to
experience negative cash flow, we could experience liquidity challenges.
Net cash provided by operating activities was $0.7 million and $1.6 million for
the first quarter of fiscal year 2003 and fiscal year 2002, respectively. The
Company generated positive cash flow from its operating activities in the first
quarter of fiscal years 2003 and 2002 primarily due to the reduction in accounts
receivable balances reflecting more focused billing and collection activities,
partially offset by operating losses in both periods.
Net cash used in investing activities was $10,000 and $30.9 million for the
first quarter of fiscal year 2003 and fiscal year 2002, respectively. Cash used
in investing activities in the first quarter of 2003 related to the
capitalization of software and computer equipment by the Company. Cash used in
investing activities in the first quarter of 2002 related primarily to the March
6, 2002 acquisition of Cambridge Strategic Management Group, Inc. The purchase
price of the acquisition, net of cash acquired, was $30.8 million.
Net cash used in financing activities was $110,000 in the first quarter of
fiscal year 2003, and related to payments made by the Company on the current
portion of its capital lease obligations and outstanding debt, partially offset
by proceeds received from the exercise of employee stock options. Net cash
provided by financing activities was $139,000 in the first quarter of fiscal
year 2002, and related to proceeds from the exercise of employee stock options,
partially offset by payments made by the Company on the current portion of its
capital lease obligations and current portion of outstanding debt.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not invest excess funds in derivative financial instruments or
other market rate sensitive instruments for the purpose of managing its foreign
currency exchange rate risk. The Company invests excess funds in short-term
investments, the yield of which is exposed to interest rate market risk.
The Company does not have material exposure to market related risks. Foreign
currency exchange rate risk may become material given U.S. dollar to foreign
currency exchange rate changes and significant increases in international
engagements denominated in the local currency of the Company's clients.
ITEM 4. CONTROLS AND PROCEDURES
A review and evaluation was performed by the Company's management, including the
Company's Chief Executive Officer (the "CEO") and Chief Financial Officer (the
"CFO"), of the effectiveness of the design and operation of the Company's
disclosure controls and procedures as of a date within 90 days prior to the
filing of this quarterly report. Based on that review and evaluation, the CEO
and CFO have concluded that the Company's current disclosure controls and
procedures, as designed and implemented, were effective. There have been no
significant changes in the Company's internal controls or in other factors that
could significantly affect the Company's internal controls subsequent to the
date of their evaluation. There were no significant material weaknesses
identified in the course of such review and evaluation and, therefore, no
corrective measures were taken by the Company.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
TMNG has not been subject to any material new litigation or claims against the
Company since the time of TMNG's 10-K filing, dated March 28, 2003. For a
summary of litigation in which TMNG is currently involved, refer to TMNG's 10-K,
as filed with the Securities and Exchange Commission on March 28, 2003.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 99. Certifications Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
(b) Reports on Form 8-K
The Company filed a Form 8-K on May 6, 2003 with the Securities and
Exchange Commission in connection with its earnings release dated April 29,
2003.
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.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ RICHARD P. NESPOLA Chairman, President and Chief May 13, 2003
- ----------------------------- Executive Officer
Richard P. Nespola (Principal executive officer)
/s/ DONALD E. KLUMB Chief Financial Officer and May 13, 2003
- ----------------------------- Treasurer
Donald E. Klumb (Principal financial officer
and principal accounting
officer)
CERTIFICATIONS
I, Richard P. Nespola, Chairman, President and Chief Executive Officer of The
Management Network Group, Inc., certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Management Network
Group, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) Presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's board of directors (or persons performing the equivalent
function):
a) All significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: May 13, 2003
By: /s/ Richard P. Nespola
---------------------------------------
Chairman, President and Chief Executive
Officer
I, Donald E. Klumb, Chief Financial Officer and Treasurer of The Management
Network Group, Inc., certify that:
1. I have reviewed this quarterly report on Form 10-Q of The Management Network
Group, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) Presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's board of directors (or persons performing the equivalent
function):
a) All significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: May 13, 2003
By: /s/ Donald E. Klumb
---------------------------------------
Chief Financial Officer and Treasurer
EXHIBIT 99. Certifications Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
In connection with this quarterly report on Form 10-Q of The Management Network
Group, Inc., I, Richard P. Nespola, Chairman, President and Chief Executive
Officer of the registrant certify that:
1. this quarterly report fully complies with the requirements of Section 13(a)
or 15(d) of the Securities Exchange Act of 1934; and
2. the information contained in this quarterly report fairly presents, in all
material respects, the financial condition and results of operations of the
registrant for and as of the end of such quarter.
Date: May 13, 2003
By: /s/ Richard P. Nespola
---------------------------------------
Chairman, President and Chief Executive
Officer
In connection with this quarterly report on Form 10-Q of The Management Network
Group, Inc., I, Donald E. Klumb, Chief Financial Officer and Treasurer of the
registrant certify that:
1. this quarterly report fully complies with the requirements of Section 13(a)
or 15(d) of the Securities Exchange Act of 1934; and
2. the information contained in this quarterly report fairly presents, in all
material respects, the financial condition and results of operations of the
registrant for and as of the end of such quarter.
Date: May 13, 2003
By: /s/ Donald E. Klumb
--------------------------------------------
Chief Financial Officer and Treasurer
A signed original of the written statement
required by Section 906 has been provided to
The Management Network Group, Inc. and will
be retained by The Management Network
Group, Inc. and furnished to the Securities
and Exchange Commission or its staff upon
request.