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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___________ TO ___________
COMMISSION FILE NUMBER: 333-41121
FIRST CONSULTING GROUP, INC.
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(Exact name of Registrant as specified in its charter)
DELAWARE 95-3539020
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
111 W. OCEAN BOULEVARD, 4TH FLOOR, LONG BEACH, CALIFORNIA 90802
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(Address of principal executive offices, including zip code)
(562) 624-5200
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
NONE NONE
(Title of each class) (Name of each exchange on which registered)
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.001 PER SHARE
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(Title of class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the Registrant's stock held by
non-affiliates of the Registrant at February 28, 1999 was approximately
$189,600,000, based on the average bid and asked price of such common equity as
of such date.
Indicate the number of shares outstanding of each of the Registrant's
classes of Common Stock, as of the latest practicable date.
COMMON STOCK, $.001 PAR VALUE 22,722,503
(Class) (Outstanding at February 28, 1999)
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DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and
the Part of the form 10-K (e.g., Part I, Part II, etc.) into which the document
is incorporated: (1) Any annual report to security holders; (2) Any proxy or
information statement; and (3) Any prospectus filed pursuant to Rule 424(b) or
(c) under the Securities Act of 1933. The listed documents should be clearly
described for identification purposes (e.g., annual report to security holders
for fiscal year ended December 24, 1980).
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TABLE OF CONTENTS
PART I
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ITEM 1. BUSINESS................................................................................ 1
o General.............................................................................. 1
o Services............................................................................. 1
o Consulting Services.................................................................. 1
o Integration Services................................................................. 2
o Co-management Services............................................................... 5
o Service Delivery..................................................................... 5
o Research and Practice Support........................................................ 6
o Clients.............................................................................. 7
o Sales and Marketing.................................................................. 7
o International Operations............................................................. 8
o Competition.......................................................................... 8
o Limited Protection of Proprietary Information and Procedures......................... 9
o Employees............................................................................ 9
o Vendor Relationships.................................................................10
o Risks Relating to the Business of FCG................................................10
ITEM 2. PROPERTIES..............................................................................17
ITEM 3. LEGAL PROCEEDINGS.......................................................................17
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.....................................17
PART II
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ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS....................18
ITEM 6. SELECTED FINANCIAL DATA.................................................................19
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION....20
o Overview.............................................................................20
o Recent Developments..................................................................21
o Comparison of the Years Ended December 31, 1998 and 1997.............................22
o Comparison of the Years Ended December 31, 1997 and 1996.............................23
o Quarterly Financial Results..........................................................24
o Liquidity and Capital Resources......................................................26
o Year 2000 Compliance.................................................................26
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK...............................28
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.............................................28
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE....28
PART III
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ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT..........................................29
ITEM 11. EXECUTIVE COMPENSATION..................................................................29
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT..........................29
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS..........................................29
PART IV
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ITEM 14. EXHIBITS, FINANCIAL STATEMENT, SCHEDULES AND REPORTS ON FORM 8-K........................30
i
PART I
ITEM 1. BUSINESS
GENERAL
First Consulting Group, Inc. ("FCG" or the "Company") provides information-based
consulting, integration, and management services for the healthcare,
pharmaceutical, and life sciences industries in North America and Europe. FCG's
services are designed to increase its clients' operations effectiveness through
reduced cost, improved customer service, enhanced quality of patient care and
more rapid introduction of new pharmaceutical compounds. Through its services,
FCG offers industry-specific expertise to objectively evaluate, select, develop,
implement and manage a set of information systems, networks and applications.
The Company provides its services primarily to private healthcare delivery
organizations, health plans, government healthcare organizations, pharmaceutical
and life sciences organizations and companies in the region of its systems
development centers. FCG has over 1,500 professionals serving North America and
Europe. FCG's consultants possess extensive expertise in financial,
administrative and clinical processes, information technologies and
applications. FCG provides this expertise to clients by assembling
multi-disciplinary teams that provide comprehensive services across its
principal services of consulting, integration, and co-management. FCG's
consulting professionals are supported by internal research and a centralized
information system which provides real-time access to current industry
information and project methodologies, experiences, models and tools. FCG
believes that its success is attributable to its strong relationships with
industry leading clients, its industry and technical expertise, its professional
environment that encourages employee retention, and the depth and breadth of its
services.
In December 1998, FCG completed a merger with Integrated Systems Consulting
Group, Inc. ("ISCG"), by exchanging approximately 6,240,000 shares of its Common
Stock for all of the outstanding Common Stock of ISCG. Each share of ISCG was
exchanged for .77 of one share of FCG Common Stock. In December 1998, FCG also
completed a merger with Pareto Consulting Ltd. ("Pareto"), by exchanging 147,531
shares of FCG Common Stock for all of the outstanding shares of Pareto. The
mergers were accounted for as poolings of interests.
SERVICES
FCG's principal services consist of consulting, integration, and co-management.
The Company believes that its clients' overall operations effectiveness is
dependent upon solid business strategy and the implementation of improved
business processes supported by information management. Further, it believes
that these elements are interdependent and therefore must be integrated in order
to be successful. FCG offers its clients an integrated approach through
multi-disciplinary teams with expertise across these areas. FCG typically is
engaged on a project basis and assembles client teams from one or more services
to match the expertise and service offerings with the overall objectives
required by each client and engagement. Many client engagements involve multiple
assignments. FCG may assemble several client teams to serve the needs of a
single client. FCG provides its services at the client site to senior-level
management and other personnel within the client organization.
CONSULTING SERVICES
FCG's consulting services help clients improve cost management, quality, and
service to obtain competitive advantage. Working within the context of the
client's philosophy, mission, and financial realities, the Company integrates
operations effectiveness and IT into clients' business strategies.
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In this age of the Internet and e-commerce, the firm provides a comprehensive
set of services to utilize the power of information for competitive advantage.
FCG helps clients apply e-commerce, information management and related process
improvements to improve areas such as:
o Care management and delivery
o Access to care and revenue management
o Health management
o Health plan distribution and market management
o Health plan operations management
FCG combines its expertise in business strategy, clinical and operational
processes, electronic data interchange, Internet, database, voice and video
technologies, and core healthcare systems, to construct integrated solutions.
Since FCG is an independent service provider, the Company works closely with its
clients, and third party vendors where appropriate, to integrate a combination
of custom and off-the-shelf products to maximize the client's investment.
The Company's consulting services span strategic planning, IT procurement and
contracting, and systems and operational design. These services help to position
the Company to provide clients with integration services, which involve the
development, implementation and integration of IT solutions.
In addition to providing integrated services to help solve key business
problems, FCG provides transition management services to help clients who are
merging, reorganizing, or have other interim staffing needs. FCG provides
interim staffing support for operational positions, such as Chief Information
Officer (CIO), Director of Information Systems, and help desk or network
managers and directors. This enables our clients to obtain immediate,
experienced support for mission critical functions on a full-time basis,
minimizing disruption and ensuring smooth operation in key functional areas.
INTEGRATION SERVICES
As healthcare delivery organizations and health plans consolidate, they face a
pressing need to integrate at the core process level. In order to manage those
core processes, they must be able to integrate information from multiple
sources. FCG provides a range of information technology expertise to support its
clients' needs to design, develop, implement and integrate complex information
management solutions. FCG's integration services include advanced technology
services, implementation services, and systems development services. The
Company's integration services enable its clients to achieve competitive
advantage, through improved customer service and clinical and financial
processes.
ADVANCED TECHNOLOGY SERVICES. FCG's advanced technology services include
application and network integration of voice, data, video, and imaging
technologies and systems. The Company evaluates, designs, develops and
implements comprehensive system architectures, infrastructures, interfaces,
databases, applications and networks to address the need for information
integration and dissemination throughout an organization. FCG's network and
application integration services emphasize scalable architectures and systems
that are designed to accommodate an increasing array of functions and features
to address a client's emerging information needs. FCG's integration services
typically involve FCG's procurement and contracting and implementation services
in order to assist the client in acquiring the needed hardware and software and,
in some cases, to install the acquired software as part of the integration plan.
FCG typically provides its advanced technology services on a fixed fee,
per-hour, or fixed-fee per month basis as negotiated in individual client
contracts.
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Advanced technology services include:
o Internet/E-Commerce--Internet/intranet design and development,
e-commerce, customer service solutions, firewall design and
implementation
o Telecommunications--voice networking and operations, call centers,
private branch exchange (PBX)
o LAN/WAN--network architecture, design, and network implementation;
performance evaluation and modeling
o End User Computing--desktop deployment planning and design,
deployment support, application integration testing, desktop image
design and implementation, policy and procedure development
o Back Office/Network Applications--server management system design,
file server consolidation, design and implementation for back office
services, Novell NetWare and NDS, NT Domain, Zen and SMS
o Information Integration--data warehousing, data architecture/data
modeling, data management, interface engines, decision support
o PACS/Telemedicine--planning and design, system selection,
implementation services and system integration
o Management System Services--network management, security management,
data center operations, disaster recovery planning, network systems
policy and procedure development, IT organizational redesign,
support center redesign
FCG has expertise in working with a wide range of technology vendors across
these areas, such as Century Analysis Inc. (CAI), Software Technologies Corp.
(STC), Cisco Systems Inc., Microsoft Corporation, Oracle Corporation, Sybase
Inc., and Nortel Baynetworks, Inc.
IMPLEMENTATION SERVICES. FCG provides implementation services for packaged
software products utilized by healthcare, health plan, pharmaceutical and life
sciences organizations. FCG has implementation expertise in hospital information
systems, ambulatory care systems, claims administration and management, health
plan marketing and distribution, Enterprise Resource Planning (ERP), and other
healthcare enterprise systems.
The Company's services include project management, installation, interface
programming, testing, conversion planning, training services,
post-implementation optimization and follow-up. In providing these services, FCG
draws on its extensive expertise in methodologies, healthcare and pharmaceutical
processes, and information technology to ensure that each implementation is
completed efficiently with minimal disruption to clients' operations. FCG's
implementation specialists emphasize administrative and clinical process
improvement and user training, including technical support staff training. FCG's
specialists are also knowledgeable in the document requirements of the
pharmaceutical regulatory approval process, as well as the enabling technologies
applicable to that process. FCG typically provides its implementation services
on a fixed-fee per month or per-hour basis.
Through its implementation services, FCG believes that it enables its clients to
maximize the value of each application investment. FCG typically assembles a
dedicated, on-site, multi-disciplinary team of consultants to perform each
implementation engagement. This team determines implementation schedules and
budgets with the client. FCG's implementation specialists may also provide
project management, quality assurance or an interface mapping and programming
function through which FCG installs the
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application and ensures that, once installed, the application will communicate
with other applications and networks used by the client. This interface mapping
and programming function often requires that FCG develop a considerable amount
of additional software code. Training of client personnel involves all aspects
of the system. FCG has extensive expertise in implementing applications from
vendors such as API, Cerner Corporation, ChannelPoint, Eclipsys, Epic, Erisco
Systems, Lawson, McKesson/HBO & Company, McKesson/Amisys, IDX Systems Corp.,
Medic Computer Systems, Inc., MedicaLogic, Inc., Meditech, Inc., PHAMIS Inc.,
PeopleSoft, Inc. and Shared Medical Systems Corporation. FCG believes that its
expertise with and independence from application vendors provides clients with
an objective, reliable resource to implement these applications.
SYSTEMS DEVELOPMENT SERVICES. The Company's systems development services help
clients develop custom software solutions that support business, clinical or
financial processes to provide competitive advantage. Seasoned software system
architects, development managers, and development staff are trained to address
diverse needs, including Object Oriented Design (OOD), distributed systems,
client/server or n-tiered systems, web-deployed transactional systems, custom
software solutions, and document management systems.
The major component of FCG's systems development services involves the
development of information systems used in the drug development and regulatory
approval processes of pharmaceutical companies. FCG's system development
professionals support the drug development life cycles in pharmaceutical
research, support preparation and submission of new drug applications and
develop client-server systems using integrated development environments.
FCG specializes in the architecture, development and integration of
client-server systems using integrated development environments that include
computer-aided design tools, graphical user interface ("GUI") and
state-of-the-art database technologies. GUI development platforms include
Sybase, Inc.'s PowerBuilder; Microsoft Corporation's Visual Basic, Access and
Visual C++; and Oracle Corporation's Designer/2000 and Developer/2000. Database
technologies used by this group include products from Oracle, Sybase, and
Microsoft, and operating systems such as Hewlett-Packard Company's HP/UX,
Digital Equipment Corporation's OpenVMS, Sun Microsystem, Inc.'s Sun/OS and
Solaris, Microsoft's Windows NT, and SCO UNIX. Additional representative FCG
vendor expertise includes: Object Products, Business Objects, Documentum,
Electronic Submission Publishing Systems (ESPS), and Microsoft.
FCG also provides capabilities in Internet, intranet and extranet design and
development. The Company's software development experts design, develop and
implement web-based applications to support customer service, marketing,
research, resource management, decision support or other internal operations. In
addition to the development of new web-based applications, consultants in this
group also build web-based applications to access legacy databases using
languages such as HTML and Java, and a variety of products from Microsoft,
Netscape, Sun Microsystems and Oracle Corporation.
FCG's systems development professionals also design, build, and integrate
software solutions for document management systems. FCG has extensive expertise
in the documentation requirements of the pharmaceutical regulatory approval
process, as well as the enabling technologies applicable to that process. FCG
customizes packaged software products to support the preparation and submission
of new drug applications, and a variety of multi-national regulatory submission
documents. In addition to its document management engagements for pharmaceutical
companies, FCG has applied this expertise into other industries as well.
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CO-MANAGEMENT SERVICES
FCG provides long-term IT management expertise, tailoring its efforts
specifically to the client's culture, strategy, and needs. The Company's
services include a range of management services including assessment/due
diligence, program management, discrete outsourcing and full IT outsourcing.
The Company's assessment/due diligence service provides clients with a strategic
and economic assessment of the feasibility of outsourcing part or all of its IT
function. This assessment enables senior management to determine the
appropriateness of outsourcing part or all of their IT function, relative to
their financial condition, strategic objectives, internal IT capabilities and
overall direction.
FCG also provides its clients with program management services which involve the
provision of senior management resource(s) for some or all of an organization's
IT projects and functions. This may include for example, the provision of a
Chief Information Officer, Director of Information Systems, or Manager and
Director of Networks or Telecommunications. The assigned resource is employed by
FCG and resides at the client site. FCG typically provides its Program
Management services on a long-term basis (e.g., three years or more), at a fixed
monthly or annual fee.
FCG provides clients with discrete outsourcing which includes the outsourcing
and management of a particular IT function, e.g., help desk or enterprise
network management. Under this arrangement, the employees of the client's
particular function become employees of FCG and continue to work at the client's
site. FCG and the client generally create a service level agreement that defines
its scope of work as part of an overall discrete outsourcing contract. The
client typically retains ownership of its assets and contracts with FCG on a
fixed monthly or annual fee basis.
Under full outsourcing, the Company and its client create a long-term,
multi-year engagement where FCG hires all of the client's IT staff, with FCG
providing complete management of the IT function. The staff continue to provide
the outsourcing services from the client's site, and the client retains
ownership of the related assets, e.g., data center, and all hardware and
software. FCG and the client typically create service level agreements, with the
overall outsourcing contract lasting for three or more years, on an annual fixed
fee basis.
See Notes to Consolidated Financial Statements -- Note M for financial
information regarding the Company's business segments.
SERVICE DELIVERY
FCG's services are provided by over 1,240 consultants who collectively have
expertise in key healthcare, pharmaceutical, financial, administrative and
clinical processes, information technologies and applications. FCG believes that
its healthcare and pharmaceutical industries focus, information technology
expertise, experienced consultants, and research and practice support enable its
clients to reduce cost, improve customer service, enhance the quality of patient
care, and more rapidly introduce new drug compounds to market.
To ensure client satisfaction, FCG typically assigns a client service or account
executive to its clients. The client service executive's primary responsibility
is to establish and maintain long-term relationships with clients. The client
service executive regularly communicates with the client to ensure client
satisfaction and is also responsible for billing decisions on each assignment.
For client engagements with multiple independent assignments, FCG assigns a
delivery service executive to each assignment. A delivery service executive has
specific technology, process or service line expertise and is responsible for
supervising the daily functions of the client team and for ensuring that the
team's progress is consistent
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with the client's objectives and schedule. FCG measures every client's
satisfaction through a client satisfaction survey completed at six-month
intervals during the engagement and again at the conclusion of each assignment.
FCG employs consultants whose individual expertise combines healthcare,
insurance, pharmaceutical, information technology and consulting skills. FCG's
consultants collectively have developed healthcare and pharmaceutical-specific
expertise in key areas such as financial, administrative and clinical processes,
care management, clinical decision support, health plan operations, medical and
utilization management, outcomes and performance management, physician practice
management, ambulatory care, and privacy and confidentiality protection. FCG's
consultants also have expertise in implementing, integrating and developing a
wide range of information technology and management systems. These systems
include packaged software applications, client/server and object-oriented
computing technologies, data repositories and data warehousing, electronic
commerce and electronic data imaging, networking, web technologies,
telemedicine, document management, security, and disaster recovery. FCG has
expanded its recruiting efforts to attract and retain the breadth and depth of
skills and expertise necessary to compete successfully in the healthcare and
pharmaceutical consulting industries.
RESEARCH AND PRACTICE SUPPORT
FCG's services and consultants are supported by internal research, training and
a centralized information system which provides real-time access to current
industry and technology information and project methodologies, experiences,
models and tools. FCG's principal research and practice support initiatives
include the Emerging Practices Group, Professional Development Programs,
Scottsdale Institute, and Knowledge and Information Technology Exchange (KITE).
EMERGING PRACTICES GROUP
The Emerging Practices Group performs industry research and collects, packages
and distributes knowledge regarding emerging trends in the healthcare and
pharmaceutical industries. Examples of topics that the Emerging Practices Group
has researched are information management practices in emerging integrated
delivery networks, process design and redesign for cross continuum care
management, impact of government legislation, physician integration, Internet
and intranet in healthcare and pharmaceutical, and use of hand-held computing
devices. FCG documents research findings, conducts internal and client workshops
on these topics, and makes the research available for use in its client
engagements.
PROFESSIONAL DEVELOPMENT AND INCENTIVE PROGRAMS
FCG has instituted several professional development and incentive programs to
encourage employee retention and to provide support for the professional growth
of all its employees. FCG provides training to its employees through an annual
four-day educational retreat, as well as ongoing classroom education,
computer-based training, distance learning and external seminars. FCG has
programs to educate all new employees about the history, culture, and practices
of FCG. All employees are required to establish an annual professional
development plan for knowledge acquisition, skill development, leadership
assessment and training, project management and relationship management. In
addition to such programs, FCG encourages equity participation by all employees.
All vice presidents must purchase a multiple of their annual salary in FCG
Common Stock through the 1994 Restricted Stock Plan, as amended (the "1994
Restricted Stock Plan"). See Notes to Consolidated Financial Statements. All
other employees are eligible to participate in the Associate 401(k) and Stock
Ownership Plan (the "ASOP"), which matches 50% of employee contributions with a
contribution of FCG Common Stock by FCG. See Notes to Consolidated Financial
Statements.
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SCOTTSDALE INSTITUTE
FCG provides program management, research and advisory support on a long-term
contract basis to the Scottsdale Institute. The Scottsdale Institute is a
membership organization composed of more than 30 healthcare organizations across
the United States, typically represented by their Chief Executive Officers,
Chief Operating Officers and Chief Information Officers. Membership is by
invitation only. The Scottsdale Institute provides its members with a
cost-sharing vehicle for information exchange, problem solving and learning
related to improving operations effectiveness through information management.
The Emerging Practices Group performs guided research projects in collaboration
with groups of three to five Scottsdale Institute member organizations that
share common characteristics and information management needs. The Emerging
Practices Group delivers research reports and tools to member organizations in
areas such as management techniques, organizational models, benchmarking and
best practices, methodologies, plans, and vendor information. This research
enables FCG to develop practical, applied solutions to problems of leading
healthcare organizations and to anticipate service needs of the broader market.
FCG has a three-year contract to provide support to the Scottsdale Institute and
has provided funding for on-going research.
KNOWLEDGE AND INFORMATION TECHNOLOGY EXCHANGE. FCG's personnel have access to
FCG's internal research and to current industry and technology information and
project methodologies, experiences, models and tools through KITE. KITE
currently houses over 5,500 documents that include industry information, service
methodologies and tools, benchmarks and best practice information, and other
documentation to support FCG's services and consultants. KITE is updated on a
continuous basis with information resulting from each engagement, by the
Emerging Practices Group. FCG believes that this resource allows its consultants
to utilize engagement-specific information which improves the quality and
content of services delivered to clients while reducing cost of delivery.
CLIENTS
In 1998, FCG provided services to over 540 clients primarily in the healthcare,
pharmaceutical and life sciences industries in North America and Europe. FCG's
clients include leading integrated delivery networks, health plans, acute care
centers, academic medical centers, physician organization, governmental
agencies, pharmaceutical companies, biotech companies and other organizations.
SALES AND MARKETING
FCG generates a substantial portion of its revenue from existing clients and
client referrals and markets its services primarily through its vice presidents
and account executives. FCG's vice presidents and account executives develop
strong relationships with senior-level information management and other
decision-making personnel at leading healthcare and pharmaceutical
organizations, and are therefore positioned to market additional strategic and
information technology consulting services to FCG's existing clients. FCG
maintains these relationships by successfully completing assignments and meeting
clients' expectations. In particular, FCG believes that by successfully
completing strategic plans for new and existing clients, it will have
significant opportunities to offer implementation and integration services to
these clients. FCG has demonstrated that this strategy leads to expanded
opportunities with its clients and referrals to new clients. In providing its
services, FCG obtains an in-depth understanding of its client's processes and
internal information technology and business strategies. Through this
understanding, FCG plans to provide operations effectiveness services to a
greater portion of its client base. Operations effectiveness services involve
assessing, designing and improving financial, administrative and clinical
process. FCG's vice presidents and practice directors allocate a significant
portion of their time to business development and related activities. FCG also
employs account executives and business development directors who are dedicated
to business development with potential and existing clients.
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FCG is frequently engaged to provide multiple services throughout several phases
of a client's information technology system lifecycle, including planning,
procurement and contracting, implementation, integration and management. As a
result of this involvement, FCG's personnel often develop an in-depth
understanding of the client's business systems and capabilities and develop
strong relationships with personnel within the client organization. These
relationships provide FCG with significant opportunities to undertake additional
assignments for each client.
In addition to generating assignments from existing clients, FCG attracts new
clients through its targeted marketing activities. FCG's marketing activities
include public presentations, press releases, publishing and trade show
participation. FCG also maintains research reports and "white papers" on its web
site, along with other company and industry information. FCG's marketing staff
produces a number of sales support tools including presentations, brochures,
article reprints, descriptions of FCG's services and case studies.
INTERNATIONAL OPERATIONS
FCG has provided its consulting, integration, and co-management services to
clients in Canada, Germany, France, Austria, Switzerland, Republic of Ireland,
Mexico and the United Kingdom, and maintains offices in Dublin, Republic of
Ireland, Toronto, Canada, Frankfurt, Germany and London, Leeds, Macclesfield and
Belfast, United Kingdom. On January 13, 1998, FCG completed the acquisition of a
small healthcare consulting firm in the United Kingdom, Greenhalgh and Company
Limited. On December 31, 1998, FCG completed the acquisition of London-based
Pareto Consulting Ltd., a leading information technology consulting firm to the
National Health Service.
FCG intends to expand its international consulting, integration, and
co-management services, which will require a significant amount of management's
attention and FCG's human and financial resources. FCG may establish additional
international operations and hire additional personnel. There can be no
assurance that FCG will be able to successfully recruit and retain the necessary
number of highly skilled consultants in each country in which it intends to
conduct its operations. Any inability to recruit and retain such employees could
impair FCG's ability to expand internationally and may have a material adverse
effect on FCG's business, financial condition and results of operations. In
addition, there can be no assurance that FCG will be able to establish
international market demand for its services. FCG's international business may
be subject to a variety of risks, including the difficulty of tailoring its
services to individual countries' healthcare and pharmaceutical market needs,
currency fluctuations, potentially longer payment cycles, potential difficulties
in collecting international accounts receivable, the enforcement of contractual
obligations and intellectual property rights, potentially adverse tax
consequences, increased costs associated with maintaining international
marketing efforts, costs of localizing services in international markets,
adverse changes in regulatory requirements and possible economic downturns
outside of the United States. These factors may have a material adverse effect
on FCG's future international operations and, consequently, on its business,
financial condition and results of operations. See Notes to Consolidated
Financial Statements -- Note M for financial information regarding the Company's
international operations.
COMPETITION
The market for healthcare consulting, integration, and co-management services is
intensely competitive, rapidly evolving and highly fragmented. The Company has
competitors that provide some or all of the services provided by the Company.
The Company competes for consulting services with international consulting
firms, regional and specialty consulting firms and the consulting groups of
international accounting firms such as KPMG LLP, Ernst & Young LLP, Deloitte &
Touche LLP, Pricewaterhouse Coopers, LLP, and Andersen Consulting. In its
integration and co-management services, the Company
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competes with information system vendors such as HBO & Company, Inc., Shared
Medical Systems Corporation and Integrated Systems Solution Corporation, a
division of International Business Machines Corporation; service groups of
computer equipment companies; systems integration companies such as Electronic
Data Systems Corporation, Perot Systems Corporation, CAP Gemini America, Inc.
and Computer Sciences Corporation; clients' internal information management
departments; and other healthcare consulting firms such as DAOU Systems, Inc.
and Superior Consultant Holdings Corporation. Many of the Company's competitors
have significantly greater financial, human and marketing resources than the
Company. As a result, such competitors may be able to respond more quickly to
new or emerging technologies and changes in customer demands, or to devote
greater resources to the development, promotion, sale, and support of their
products and services than the Company. In addition, as healthcare organizations
become larger and more complex, the Company's larger competitors may be better
able to serve the needs of such organizations. The Company may not be able to
attract and retain the personnel or to dedicate the financial resources
necessary to serve these resulting organizations.
The Company believes that it competes primarily on the basis of the quality of
its services; however, its clients may become increasingly price-sensitive as
competitive pricing pressures increase. Large information technology companies
have, in the past, offered consulting services at a substantial discount as an
incentive to utilize their implementation services, and software and hardware
vendors may provide discounted implementation services for their products. These
competitors may in the future discount such services more frequently or offer
such services at no charge. There can be no assurance that the Company will be
able to compete for price-sensitive clients on the basis of its current pricing
or cost structure, or that the Company will be able to lower its prices or costs
in order to compete effectively. Furthermore, many of the Company's competitors
have long-standing business relationships with key personnel at healthcare
organizations which could prevent or delay the Company from expanding its client
base. While the Company believes that it has been able to compete successfully
on the basis of the quality and range of its services and the accumulated
expertise of its consultants. The Company may not be able to compete effectively
with current and future competitors or that competitive pressures faced by the
Company will not cause the Company's revenue or operating margins to decline or
otherwise materially adversely affect its business, financial condition and
results of operations.
LIMITED PROTECTION OF PROPRIETARY INFORMATION AND PROCEDURES
The Company's ability to compete effectively depends on its ability to protect
its proprietary information, including its proprietary methodologies, research,
tools, software code and other information. The Company relies primarily on a
combination of copyright and trade secret laws and confidentiality procedures to
protect its intellectual property rights. The Company requests that its
consultants and employees sign confidentiality agreements and generally limits
access to and distribution of its research, methodologies and software codes.
The steps taken by the Company to protect its proprietary information may not be
adequate to prevent its misappropriation. In addition, the laws of certain
countries do not protect or enforce proprietary rights to the same extent as do
the laws of the United States. The unauthorized use of the Company's
intellectual property could have a material adverse effect on the Company's
business, financial condition or results of operations. The Company believes
that its systems and procedures and other proprietary rights do not infringe
upon the proprietary rights of third parties. Third parties could assert
infringement claims against the Company in the future. Such claims will not
result in protracted and costly litigation, regardless of the merits of such
claims.
EMPLOYEES
As of December 31, 1998, FCG had 1,508 employees, 68 of who were vice
presidents. FCG's vice presidents are stockholders of FCG and are responsible
for new business development, client relationships, staff development, company
leadership, service delivery and the long-term strategy of FCG.
9
FCG believes that its relationship with its employees is good. A November 1998
survey of 200 FCG employees by Fortune Magazine, indicated that 95% of employees
agreed that "FCG is a great place to work."
The Company uses a variety of techniques to identify and recruit qualified
candidates to support its growth. The Company employs full time recruiters
dedicated to the recruitment and hiring of personnel. One of the Company's most
successful sources of new hires is the StarQuest, or internal employee referral
program, which encourages employees to recommend or refer qualified candidates
for employment with the Company, and rewards referring employees with referral
bonuses. The Company also places advertisements in various newspapers and uses
professional search firms to identify candidates for hire. The Company
participates in job fairs, and sponsors independent recruiting events, such as
open houses and free technical seminars.
VENDOR RELATIONSHIPS
Through ISCG, FCG's wholly-owned subsidiary, FCG has established non-exclusive
partnership arrangements with software vendors that market technology or
application solutions to ISCG's current and prospective clients. In 1998, FCG
increased the number of formalized relationships with vendors. The vendor
partnership and alliance programs of which FCG is a part have provided FCG with
sales leads, reselling commissions, marketing assistance revenues, increased
publicity, discounted software, specialized training programs, participation in
beta software programs and privileged information about vendors' technical and
marketing strategies. ISCG currently maintains marketing partnerships with
Borland International, Inc., Cornerstone, Documentum, Inc., ESPS,
Hewlett-Packard, Kofax, Microframe Technologies, Inc., Microsoft, Oracle
Corporation, Silverstream Software Inc., and Sybase. In addition, the Company
has written agreements with more than 15 other vendors relating to product
implementation activities, including training and education of FCG consultants,
updates on new release and product plans, and joint client service programs.
RISKS RELATING TO THE BUSINESS OF FCG
FCG MAY BE UNABLE TO ATTRACT AND RETAIN A SUFFICIENT NUMBER OF QUALIFIED
EMPLOYEES. FCG's business is labor-intensive and requires highly skilled
employees. Most of FCG's consultants possess extensive expertise in healthcare,
insurance, pharmaceutical, information technology and consulting fields. To
serve a growing client base, FCG must continue to recruit and retain qualified
personnel with expertise in each of these four fields. Competition for such
personnel is intense. FCG competes for such personnel with management consulting
firms, healthcare and pharmaceutical organizations, software firms and other
businesses. Many of these entities have substantially greater financial and
other resources than FCG. FCG may not be able to recruit and retain a sufficient
number of qualified personnel to serve existing and new clients. If FCG fails to
recruit and retain a sufficient number of qualified personnel, FCG's ability to
expand its client base or services could be impaired and FCG's business,
financial condition and results of operations could be adversely effected.
CONTINUED OR INCREASED EMPLOYEE TURNOVER COULD NEGATIVELY AFFECT FCG'S BUSINESS.
FCG has experienced employee turnover as a result of (1) dependence on lateral
hiring of consultants, (2) travel demands imposed on its consultants, and (3)
loss of employees to competitors and clients. Continued or increased employee
turnover could materially adversely affect FCG's business, financial condition
and results of operations. In addition, many of FCG's consultants develop strong
business relationships with FCG's clients. FCG depends on these relationships to
generate additional assignments and engagements. The loss of a substantial
number of consultants could erode FCG's client base and decrease FCG's revenue.
10
THERE ARE VARIOUS FACTORS WHICH MAY CAUSE FCG'S NET REVENUES AND OPERATING
RESULTS TO FLUCTUATE. FCG's net revenue and operating results may fluctuate
significantly because of a number of factors, many of which are outside FCG's
control. These factors may include:
o Losing key personnel and other employees
o Losing one or more significant clients
o Consummating an acquisition
o Costs of integrating acquired operations
o Timing and collection of payments and new client engagementS
o Delays in securing and completing client engagements
o Fluctuations in market demand for FCG's services, consultant hiring
and utilizatioN
o Variability in the number of billable days
o Availability of foreign net operating losses and other credits
against FCG's earningS
o Increased competition and pricing pressures
o Changes in business strategy, pricing and billing policies of FCG
and its competitorS
o International currency fluctuations
o Timing of certain general and administrative expenses
A substantial portion of FCG's expenses, particularly personnel and related
costs, depreciation, office rent and occupancy costs, are relatively fixed. One
or more of the foregoing factors may cause FCG's operating expenses to be
disproportionately high during any given period. In addition, FCG bills certain
of its services on a fixed-price basis, and any assignment delays or
expenditures of time beyond that projected for the assignment could result in
write-offs of client billings. Significant write-offs could materially adversely
effect FCG's business, financial condition and results of operations. Based on
the preceding factors, FCG may experience a shortfall in revenue or earnings or
otherwise fail to meet public market expectations, which could materially
adversely effect FCG's business, financial condition and the market price of the
FCG Common Stock.
THE VARIABLE NUMBER OF BILLABLE DAYS IN A QUARTER MAY AFFECT FCG'S NET REVENUE
AND NET OPERATING EXPENSES. FCG's net revenue and operating expenses vary
depending on the number of billable days in any given quarter. FCG typically has
a lower number of billable days in the second and fourth quarters of every year.
In the second quarter of each year, FCG requires employee attendance at an
annual meeting of a majority of its employees. In the fourth quarter of each
year, FCG also encourages its employees to take vacation during the December
holidays. The number of billable days may also vary as a result of vacation
days, sick time, paid and unpaid leave and other holidays.
THE LENGTH OF TIME REQUIRED TO ENGAGE A CLIENT AND TO COMPLETE AN ASSIGNMENT MAY
BE UNPREDICTABLE AND COULD NEGATIVELY IMPACT FCG'S NET REVENUES AND OPERATING
RESULTS. The timing of client engagements and service fulfillment is not
predictable with any degree of accuracy. Prior engagement cycles are not
necessarily an indication of the timing of future client engagements or
revenues.
11
Prior to client engagements, FCG typically spends a substantial amount of time
and resources (1) identifying strategic or business issues facing the client,
(2) defining engagement objectives, (3) gathering information, (4) preparing
proposals and (5) negotiating contracts. FCG may be required to hire new
consultants before securing a client engagement. Clients may defer committing to
new assignments for any length of time and for any reason. Such deferrals could
require FCG to maintain a significant number of under-utilized consultants
during any given period. In addition, failing to procure an engagement after
spending such time and resources could materially adversely effect FCG's
business, financial condition and results of operations.
The length of time required to complete an assignment often depends on factors
outside FCG's control, including:
o Existing information systems at the client site
o Changes or the anticipation of changes in the regulatory environment
affecting healthcare and pharmaceutical organizations
o Budgetary cycles and constraints
o Availability of personnel and other resources
o Consolidation in the healthcare and pharmaceutical industries
FCG may be unable to satisfy objectives and complete projects and services. Any
such failure may result in write-offs of client billings, reduction in
engagements or loss of clients. FCG's failure to deliver the services required
by the client on a timely basis or within anticipated budgets could materially
adversely affect FCG's business, financial condition and results of operations.
IF FCG IS UNABLE TO GENERATE ADDITIONAL REVENUE FROM ITS EXISTING CLIENTS, FCG'S
BUSINESS MAY BE NEGATIVELY AFFECTED. FCG's success depends on obtaining
additional engagements from its existing clients. A substantial portion of FCG's
revenues are derived from services provided to its existing clients. The loss of
a small number of clients may result in a material decline in revenues and cause
FCG to fail to meet public market expectations of its financial performance and
operating results. Any material failure on the part of FCG to generate
additional revenues from its existing clients may materially adversely effect
FCG's business, financial condition and results of operations.
IF FCG IS UNABLE TO MANAGE ITS GROWTH, ITS BUSINESS MAY BE NEGATIVELY IMPACTED.
FCG's business has grown rapidly in recent years. This growth has placed new and
increased demands on FCG's vice presidents and other management personnel. This
growth has also placed significant and increasing demands on FCG's financial,
technical and operational resources and on its information systems. To manage
any future growth, FCG must (1) extend its financial reporting and information
management systems to a growing number of offices and employees, and (2) develop
and implement new procedures and controls to accommodate new operations,
services and clients. Increasing operational and administrative demands may make
it difficult for FCG's vice presidents to engage in business development
activities. Adding a significant number of new employees and offices may also
impair FCG's ability to maintain its service delivery standards and corporate
culture. In addition, FCG has in the past changed, and may in the future change,
its organizational structure and business strategy. Such changes may result in
operational inefficiencies and delays in delivering FCG's services. Such changes
could also cause a disruption in FCG's business and could have a material
adverse effect on FCG's business, financial condition and results of operations.
If FCG fails to effectively manage its growth, FCG's business, financial
condition and results of operations could be adversely affected.
12
FCG'S FAILURE TO ACQUIRE AND SUCCESSFULLY INTEGRATE THE BUSINESSES FCG ACQUIRES
COULD NEGATIVELY IMPACT FCG. FCG intends to grow, in part, by acquiring
complementary professional practices within the healthcare and pharmaceutical
industries. In 1998, FCG completed two acquisitions and is in the process of
completing a third acquisition. Integrating acquired operations is a complex,
time-consuming and expensive process. All acquisitions involve risks that could
materially and adversely effect FCG's business and operating results. These
risks include (1) distracting management from the business of FCG, (2) losing
key personnel and other employees, (3) losing clients, (4) costs, delays and
inefficiencies associated with integrating acquired operations and personnel,
and (5) amortizing the cost of acquired assets and goodwill. Acquired businesses
may not enhance FCG's services, provide FCG with increased client opportunities
or result in growth. Combining acquired operations with FCG may result in lower
overall operating margins, greater stock price volatility and quarterly earnings
fluctuations. Cultural incompatibilities, career uncertainties and other factors
associated with such acquisitions may result in the loss of employees and
clients. Failing to acquire and successfully integrate complementary practices
could materially adversely effect FCG's business, financial condition and
results of operations.
FCG'S INTERNATIONAL OPERATIONS CREATE SPECIALIZED RISKS THAT CAN NEGATIVELY
AFFECT FCG. FCG provides its services to international clients. Expanding into
international markets will require FCG to (1) spend a significant amount of
management, human and financial resources, (2) hire additional personnel, and
(3) establish international offices. FCG may be unable to recruit and retain a
sufficient number of qualified consultants in each country in which it intends
to conduct its business. If FCG fails to recruit and retain qualified employees,
FCG's ability to expand internationally may be impaired and FCG's business,
financial condition and results of operations could be adversely effected. FCG's
international operations are subject to a variety of risks, including:
o Difficulties and costs of localizing services in international
markets
o Unfavorable pricing and price competition
o Currency fluctuations
o Longer payment cycles in some countries
o Difficulties in collecting international accounts receivable
o Difficulties in enforcing contractual obligations and intellectual
property rights
o Adverse tax consequences
o Increased costs associated with maintaining international marketing
efforts and offices
o Adverse changes in regulatory requirements
o Economic instability
Any one or all of these factors may cause increased operating costs, lower than
anticipated financial performance and may materially adversely effect FCG's
business, financial condition and results of operations.
IF FCG DOES NOT COMPETE EFFECTIVELY IN THE HEALTHCARE AND PHARMACEUTICAL
INFORMATION SERVICES INDUSTRIES, THEN ITS BUSINESS MAY BE NEGATIVELY IMPACTED.
The market for healthcare and pharmaceutical information technology consulting
is very competitive. FCG has competitors that provide some or all of the
services provided by FCG. In strategic consulting services, FCG compete with (1)
international consulting firms, (2) regional and specialty consulting firms and
(3) the consulting groups of international accounting firms such as KPMG LLP,
Ernst & Young LLP, Deloitte & Touche LLP, PricewaterhouseCoopers, LLP and
Andersen Consulting. In implementation and integration services,
13
FCG competes with (1) information system vendors such as HBO & Company, Inc.,
Shared Medical Systems Corporation and Integrated Systems Solution Corporation,
a division of International Business Machines Corporation, (2) service groups of
computer equipment companies, (3) systems integration companies such as
Electronic Data Systems Corporation, Perot Systems Corporation, CAP Gemini
America, Inc. and Computer Sciences Corporation, (4) clients' internal
information management departments, (5) other healthcare consulting firms such
as DAOU Systems Inc. and Superior Consultant Holdings Corporation and (6) other
pharmaceutical consulting firms such as Andersen Consulting, Technology
Solutions Corporation, Cap Gemini America, Computer Sciences Corporation's
consulting division, and Cambridge Technology Partners, Inc.
IF FCG FAILS TO ESTABLISH AND MAINTAIN RELATIONSHIPS WITH VENDORS OF SOFTWARE
AND HARDWARE PRODUCTS, IT COULD HAVE A NEGATIVE EFFECT ON FCG'S ABILITY TO
SECURE ENGAGEMENTS. A wholly-owned subsidiary of FCG has established a
non-exclusive partnership arrangement with Documentum, Inc. Documentum markets
document management software applications largely to the pharmaceutical
industry. FCG believes that its relationship with this vendor is important to
its sales, marketing, and support activities. FCG integrates Documentum's
software products into clients' systems. If a client or prospective client
selects one of Documentum's products, FCG may be hired to integrate the product
into the client's system. If FCG fails to maintain its relationship with
Documentum or fails to establish relationships with other vendors, FCG's
business could be materially adversely effected.
Many of FCG's competitors have significantly greater financial, human, and
marketing resources than FCG. Such competitors may be able to respond more
quickly to new or emerging technologies and changes in customer demands, or to
devote greater resources to the development, promotion, sale, and support of
their products and services than FCG. FCG may be unable to compete effectively
with current and future competitors. Competitive pressures may cause FCG's
revenue or operating margins to decline or otherwise materially adversely effect
its business, financial condition and results of operations.
THE DISRUPTION OR FAILURE OF COMPUTER PROGRAMS AND SYSTEMS DUE TO THEIR
INABILITY TO PROCESS DATE/TIME INFORMATION BETWEEN THE TWENTIETH AND
TWENTY-FIRST CENTURIES MAY CAUSE AN INTERRUPTION IN AND NEGATIVELY IMPACT FCG'S
BUSINESS. Many existing computer programs and systems, including those used by
FCG's clients, use only two digits to identify the year in the date field. These
programs may be unable to process date/time information between the twentieth
and twenty-first centuries. This inability could cause the disruption or failure
of such computer systems (the "Y2K Problem"). Solving the Y2K Problem will
require a large amount of time and resources. FCG's clients may have to
reallocate a significant portion of their budgets away from FCG's services to
address this problem. Such reallocation would have a material adverse effect on
FCG's business, financial condition and results of operations. FCG's current
time and billing systems are not Y2K compliant. FCG has purchased an upgrade to
these systems that will render them Y2K compliant. FCG expects to complete
deployment of this upgrade in the second or third quarter of 1999. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operation -- Year 2000 Compliance" for a more detailed discussion.
THE LOSS OF FCG'S VICE PRESIDENTS AND EXECUTIVE OFFICERS COULD NEGATIVELY AFFECT
FCG. FCG's performance depends on the continued service of its vice presidents,
executive officers and senior managers. In particular, FCG depends on such
persons to secure new clients and engagements and to manage the business and
affairs of FCG. The loss of such persons could result in disruption of FCG's
business, stock price volatility and could have a material adverse effect on
FCG's business, financial condition and results of operations. FCG has not
entered into long-term employment contracts with any of its employees and does
not maintain key employee life insurance.
14
IF FCG FAILS TO MEET CLIENT EXPECTATIONS IN THE PERFORMANCE OF ITS SERVICES,
FCG'S BUSINESS COULD SUFFER. FCG's services often involve complex information
systems and software which are critical to the clients' operations. FCG's
failure to meet client expectations in the performance of its services may
damage FCG's reputation in the healthcare and pharmaceutical industries and
adversely affect its ability to attract and retain clients. If a client is not
satisfied with FCG's services, FCG will generally spend additional human and
other resources at its own expense to ensure client satisfaction. Such
expenditures will typically result in a lower margin on such engagements and
could materially adversely effect FCG's business, financial condition and
results of operations.
In the course of providing its services, FCG will often recommend the use of
other software and hardware products. These products may not perform as
expected or contain defects. If this occurs, FCG's reputation could be
damaged and it could be subject to liability. FCG attempts to limit its
exposure to potential liability claims. Such limitations may not be
effective. A successful liability claim brought against FCG may adversely
affect FCG's reputation in the healthcare and pharmaceutical industries and
could have a material adverse effect on FCG's business, financial condition
and results of operations. Although FCG maintains liability insurance, such
insurance may not provide adequate coverage for successful claims against FCG.
FCG's outsourcing activities entail significant engagements in which FCG will
commit to specific service level agreements that define FCG's responsibilities
over the contracted period. Any failure on the part of FCG to meet contracted
service levels may result in financial penalty or default of the contract, and
may have a material adverse effect on the Company. FCG's outsourcing engagements
are typically performed on a fixed price basis where FCG hires part or all of a
client's IT personnel. There can be no assurance that FCG will be able to retain
these individuals, and effectively hire additional personnel as needed to meet
the obligations of its contract. FCG's ability to achieve profitability in its
outsourcing activities is dependent upon the accuracy of its forecasting and its
ability to deliver the contracted scope of services within the constraints of
the fixed price contract. Any failure by the Company in these areas may have a
material adverse effect on the profitability of its outsourcing business.
IF FCG FAILS TO KEEP PACE WITH REGULATORY AND TECHNOLOGICAL CHANGES, THEN
FCG'S BUSINESS COULD BE MATERIALLY ADVERSELY AFFECTED. The healthcare and
pharmaceutical industries are subject to regulatory and technological changes
that may affect the procurement practices and operations of healthcare and
pharmaceutical organizations. During the past several years, the healthcare
and pharmaceutical industries have been subject to an increase in
governmental regulation and reform proposals. These reforms could increase
governmental involvement in the healthcare and pharmaceutical industries,
lower reimbursement rates or otherwise change the operating environment of
FCG's clients. Healthcare and pharmaceutical organizations may react to these
proposals by curtailing or deferring investments, including those for FCG's
services. FCG cannot predict with any certainty what impact, if any, such
legislative reforms could have on its business.
Technological change in the network and application markets has created high
demand for consulting, implementation and integration services. If the pace of
technological change were to diminish, FCG could experience a decrease in demand
for its services. Any material decrease in demand would materially adversely
effect FCG's business, financial condition and results of operations.
CHANGES IN THE HEALTHCARE AND PHARMACEUTICAL INDUSTRIES COULD NEGATIVELY
IMPACT FCG'S REVENUES. FCG derives a substantial portion of all of its
revenue from clients in the healthcare industry. As a result, FCG's business,
financial condition and results of operations are influenced by conditions
affecting this industry, particularly current trends towards consolidation
among healthcare and pharmaceutical organizations. Such consolidation may
reduce the number of existing and potential clients for FCG's services. In
addition, the resulting organizations could have greater bargaining power,
which could erode
15
the current pricing structure for FCG's services. The reduction in the size of
FCG's target market or the failure of FCG to maintain its pricing strategies
could have a material adverse effect on FCG's business, financial condition and
results of operations.
A substantial portion of FCG's revenues has come from companies in the
pharmaceutical business. FCG's revenues are, in part, linked to the
pharmaceutical industry's research and development expenditures. Should any of
the following events occur in the pharmaceutical industry, FCG's business could
be negatively affected in a material way:
o The industry's general economic environment changes adversely
o Companies continue to consolidate
o Research and development expenditures or pharmaceutical companies'
expenditures on technology in general decrease
A trend in the pharmaceutical industry is for companies to "outsource" either
large information technology-dependent projects or their information systems
staffing requirements. Outsourcing means that, rather than utilize its own
employees, a company contracts with a third party to undertake an entire project
or to provide technical personnel to augment their own staff. FCG benefits when
pharmaceutical companies outsource to it. If this outsourcing trend slows down
or stops, FCG financial condition and results of operations could be impacted in
a materially adverse way.
FCG MAY BE UNABLE TO EFFECTIVELY PROTECT ITS PROPRIETARY INFORMATION AND
PROCEDURES. FCG must protect its proprietary information, including its
proprietary methodologies, research, tools, software code and other information.
To do this, FCG relies on a combination of copyright and trade secret laws and
confidentiality procedures to protect its intellectual property. These steps may
not protect FCG's proprietary information. In addition, the laws of certain
countries do not protect or enforce proprietary rights to the same extent as do
the laws of the United States. FCG is currently providing its services to
clients in international markets. FCG's proprietary information may not be
protected to the same extent as provided under the laws of the United States, if
at all. The unauthorized use of FCG's intellectual property could have a
material adverse effect on FCG's business, financial condition or results of
operations. In addition, third parties may assert infringement claims against
FCG in the future. Such claims may result in protracted and costly litigation,
regardless of the merits of such claims.
FCG'S MANAGEMENT MAY BE ABLE TO EXERCISE CONTROL OVER MATTERS REQUIRING
STOCKHOLDER APPROVAL. FCG's current officers, directors, and others
affiliated with FCG beneficially own approximately 60%, of the outstanding
shares of FCG Common Stock. As a result, FCG's existing management, if acting
together, may be able to exercise control over or significantly influence
matters requiring stockholder approval, including the election of directors,
mergers, consolidations and sales of all or substantially all of the assets
of FCG.
16
ITEM 2. PROPERTIES
FCG's headquarters is located in approximately 18,000 square feet of leased
office space in Long Beach, California. As a result of the merger with ISCG, FCG
acquired leases of approximately 52,000 square feet in Wayne, Pennsylvania,
which house the majority of the employees who worked for ISCG. FCG also leases
an aggregate of approximately 101,000 square feet of office space in the
following cities: Oakland, California; Somerset and Morristown, New Jersey;
Bethesda, Beltsville and Baltimore, Maryland; New York City, New York; Tampa,
Florida; Detroit and Okemos, Michigan; Houston and Dallas, Texas; Boston,
Massachusetts; Pittsburgh, Pennsylvania; Chicago, Illinois; Atlanta, Georgia;
Seattle, Washington; Denver, Colorado; Vienna and Alexandria, Virginia; Dublin,
Ireland; London, Macclesfield and Belfast, United Kingdom; and Tegucigalpa,
Honduras. FCG is expanding its headquarters leased space in the Long Beach
headquarters to accommodate future growth.
ITEM 3. LEGAL PROCEEDINGS
From time to time, FCG may be involved in claims or litigation that arise in the
normal course of business. FCG is not currently a party to any legal proceedings
which, if decided adversely to FCG, would have a material adverse effect on
FCG's business, financial condition, or result of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
A special meeting of the Company's stockholders was held on December 18, 1998 to
approve the issuance of shares of the Common Stock of the Company pursuant to
the Agreement and Plan of Merger and Reorganization, dated as of September 9,
1998, by and among the Company, Integrated Systems Consulting Group, Inc., a
Delaware Corporation and Foxtrot Acquisition Sub, Inc., a Delaware Corporation
and a wholly-owned subsidiary of FCG, as amended by the First Amendment dated as
of November 11, 1998 (the "Merger Agreement") and to transact such other
business as may properly come before the special meeting. The Company's
stockholders of record as of the close of business on November 10, 1998 were
mailed a notice of the special meeting, a joint proxy statement/prospectus and
proxy relating to the issuance of shares of FCG Common Stock. The issuance of
shares of FCG Common Stock pursuant to the Merger Agreement was approved.
17
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Since February 13, 1998, FCG Common Stock has been quoted on Nasdaq under the
symbol "FCGI." The table below sets forth, for the quarters indicated, the
reported high and low sale prices of FCG Common Stock reported on the Nasdaq
National Market.
FCG COMMON STOCK
-----------------------
1998 HIGH LOW
---- ---- ---
First Quarter.......... $20.88 $17.50
Second Quarter......... 29.13 18.50
Third Quarter.......... 29.00 13.88
Fourth Quarter......... 24.13 8.75
As of February 28, 1999, there were approximately 477 record holders of FCG
Common Stock. Other than dividends previously paid by an acquired company to its
individual owner, FCG has never paid cash dividends on its Common Stock and
presently intends to continue to retain its earnings for use in the businesses.
18
ITEM 6. SELECTED FINANCIAL DATA
The following selected historical consolidated financial information of FCG as
of December 31, 1997 and 1998 and for each of the years ended December 31, 1996,
1997 and 1998, has been derived from and should be read in conjunction with the
consolidated financial statements of FCG and related notes thereto included
elsewhere in this Report. The selected historical consolidated financial
information of FCG as of December 31, 1994, 1995 and 1996 and for the years
ended December 31, 1994 and December 31, 1995, have been derived from the
audited consolidated financial statements of FCG which are not included in this
Report.
On September 9, 1998 the merger agreement in its definitive form with Integrated
Systems Consulting Group ("ISCG") was executed and jointly announced. On
December 18, 1998, FCG completed its merger with ISCG. In December 1998, FCG
also completed a merger with Pareto Consulting Ltd. ("Pareto"). The mergers were
accounted for as poolings of interests and all prior period consolidated
financial data presented herein has been restated to include the combined
results of the acquisitions as though they had always been part of FCG.
(In Thousands, Except Per Share Data) YEARS ENDED DECEMBER 31
----------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- ------- -------- --------
Statement of Operations Data:
Net revenue ..................................... $196,290 $137,121 $98,412 $ 70,796 $ 45,363
Cost of services ................................ 110,836 80,191 59,454 40,197 25,942
-------- -------- ------- -------- --------
Gross profit ........................... 85,454 56,930 38,958 30,599 19,421
General and administrative expenses ............. 63,290 44,554 32,387 23,198 13,567
Merger related costs ............................ 6,041 -- -- -- --
Compensation expenses related to stock issuances -- 6,060 588 385 --
-------- -------- ------- -------- --------
Income from operations ................. 16,123 6,316 5,983 7,016 5,854
Interest income (expense), net .................. 2,307 392 396 (33) (142)
Other income, net ............................... 55 119 44 18 32
-------- -------- ------- -------- --------
Income before income taxes ............. 18,485 6,827 6,423 7,001 5,744
Provision for income taxes ...................... 10,234 4,488 2,797 2,815 2,457
-------- -------- ------- -------- --------
Net income ............................. $ 8,251 $ 2,339 $ 3,626 $ 4,186 $ 3,287
======== ======== ======= ======== ========
Basic net income per share ...................... $ 0.38 $ 0.14 $ 0.26 $ 0.36 $ 0.24
Diluted net income per share .................... $ 0.36 $ 0.13 $ 0.23 $ 0.34 $ 0.23
Shares used in computing basic net income
per share .................................... 21,567 16,234 14,142 11,578 13,685
Shares used in computing diluted net
income per share ................................ 23,010 17,471 15,505 12,451 14,362
Balance Sheet Data (at end of period):
Cash and cash equivalents ....................... $ 20,737 $ 12,187 $ 9,595 $ 5,215 $ 2,656
Total assets .................................... 130,461 59,294 45,084 29,674 16,679
Long-term debt .................................. 238 262 2,692 3,362 3,638
Total stockholders' equity ...................... 92,586 27,080 21,614 7,039 2,572
19
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
The following discussion and analysis should be read in conjunction with
"Selected Financial Data" and the consolidated financial statements and notes
thereto contained elsewhere in this Report. Except for the historical
information contained herein, the discussion in this Report contains certain
forward-looking statements that involve risks and uncertainties, such as
statements of FCG's plans, objectives, expectations and intentions. The
cautionary statements made in this Report should be read as being applicable to
all related forward-looking statements wherever they appear in this prospectus.
FCG's actual results could differ materially from those discussed here. Factors
that could cause or contribute to such differences include those discussed in
this section and the section entitled "Risks Relating to the Business of FCG" as
well as those discussed elsewhere in this Report.
OVERVIEW
FCG provides services to payors, providers, government agencies, pharmaceutical,
biogenetic, and life science companies, and other healthcare organizations in
North America and Europe. FCG generates substantially all of its revenue from
fees for professional services. FCG typically bills for its services on an
hourly, fixed-fee or monthly fixed-fee basis as specified by the agreement with
a particular client. FCG establishes either standard or target hourly rates for
each level of consultant based on several factors including industry and
assignment-related experience, technical expertise, skills and knowledge. For
services billed on an hourly basis, fees are determined by multiplying the
amount of time expended on each assignment by the hourly rate for the
consultant(s) assigned to the engagement. Fixed fees are established on a
per-assignment or monthly basis and are based on several factors such as the
size, scope, complexity and duration of an assignment and the number of
consultants required to complete the assignment. Actual hourly or fixed fees for
an assignment may vary from the standard, target, or historical rates charged by
FCG. For services billed on an hourly basis, FCG recognizes revenue as services
are performed. For services billed on a fixed fee basis, FCG recognizes revenue
using the percentage of completion method based on the amount of time completed
on each assignment versus the projected number of hours required to complete
such assignment. Revenue is recorded as incurred at assignment rates net of
unplanned adjustments for specific engagements. Unplanned adjustments to revenue
are booked at the time they are known. Out-of-pocket expenses are reimbursed by
clients and offset against expenses incurred and are not included in recognized
revenues. Provisions are made for estimated uncollectible amounts based on the
Company's experience. FCG may obtain payment in advance of providing services.
These advances are recorded as deferred revenue and reflected as a liability on
FCG's balance sheet.
Cost of services primarily consists of the salaries, bonuses and related
benefits of client-serving consultants and subcontractor expenses. General and
administrative expenses primarily consist of the costs attributable to the
development of the business and the support of its client-serving professionals,
such as: non-billable travel, office space occupancy; investments in FCG's
information systems, research and practice support and quality initiatives;
salaries and expenses for executive management, financial accounting and
administrative personnel; expenses for firm and service line governance
meetings; recruiting fees and professional development and training; and
marketing, legal and other professional services. As associate related costs are
relatively fixed, variations in FCG's revenues and operating results can occur
as a result of variations in billing margins and utilization rates of its
billable associates.
20
The Company routinely reviews its fees for services, professional compensation
and overhead costs to ensure that its services and compensation are competitive
within the industry. In addition, FCG routinely monitors the progress of client
projects with its clients' senior management. Quality of Service Questionnaires
are sent to the client after each engagement with the results compiled and
reported to FCG executive management.
In connection with the ASOP and certain non-qualified stock options granted to
FCG's vice presidents, FCG recognizes compensation expense on its consolidated
statement of operations. The recurring portion of FCG's compensation expense
relating to stock issuances and the amortization of deferred compensation is
reflected in FCG's consolidated statements of operations as general and
administrative expenses or cost of services based on the function of the
employee to whom the charge relates. Since 1998, FCG has granted all stock
options at fair market value. In connection with the ASOP, FCG matches employee
401(k) contributions with shares of FCG Common Stock based on the fair market
value of the shares.
FCG's most significant expenses are its human resource and related salary and
benefit expenses. As of December 31, 1998, approximately 81% of FCG's 1,508
employees are consultants, and the salaries and benefits of such consultants are
recognized in FCG's cost of services. Non-billable employee salaries and
benefits are recognized as a component of general and administrative expenses.
FCG's cost of services as a percentage of revenue is directly related to its
consultant utilization, which is the ratio of total billable hours to available
hours in a given month. FCG manages consultant utilization by monitoring
assignment requirements and timetables, available and required skills, and
available consultant hours per week and per month. Differences in personnel
utilization rates can result from variations in the amount of non-billed time,
which has historically consisted of training time, vacation and holiday time,
time lost to illness and inclement weather and unassigned time. Non-billed time
also includes time devoted to other necessary and productive activities such as
sales support and interviewing prospective employees. Unassigned time results
from differences in the timing of the completion of an existing assignment and
the beginning of a new assignment. In order to reduce and limit unassigned time,
FCG actively manages personnel utilization by monitoring and projecting
estimated engagement start and completion dates and matching consultant
availability with current and projected client requirements. The number of
consultants staffed on an assignment will vary according to the size,
complexity, duration and demands of the assignment. Assignment terminations,
completions and scheduling delays may result in periods in which consultants are
not optimally utilized. An unanticipated termination of a significant assignment
or an overall lengthening of the sales cycle could result in a higher than
expected number of unassigned consultants and could cause FCG to experience
lower margins. In addition, the opening of new offices, expansion into new
markets, and the hiring of consultants in advance of client assignments have
resulted and may continue to result in periods of lower consultant utilization.
FCG's effective tax rate has varied from period to period due to non-deductible
losses from FCG's foreign operations and differences between book and tax
deductions associated with certain non-deductible operating expenses, including
certain compensation expenses related to the ASOP, and merger related
activities. The Company believes that its tax rate has normalized around the 43%
rate level.
RECENT DEVELOPMENTS
On September 9, 1998 the merger agreement in its definitive form with Integrated
Systems Consulting Group ("ISCG") was executed and jointly announced. On
December 18, 1998, FCG completed its merger with ISCG. In December 1998, FCG
also completed a merger with Pareto Consulting Ltd. ("Pareto"). The mergers were
accounted for as poolings of interests and all prior period consolidated
financial data presented herein has been restated to include the combined
results of the acquisitions as though they had always been part of FCG.
21
COMPARISON OF THE YEARS ENDED DECEMBER 31, 1998 AND 1997
NET REVENUE. FCG's net revenue increased to $196.3 million, or 43.2%, for the
year ended December 31, 1998 from $137.1 million for the year ended December 31,
1997. This increase was primarily attributable to an increase in revenue from
FCG's core business service lines including application development, integration
services, implementation services, and operations effectiveness.
COST OF SERVICES. Cost of services increased to $110.8 million, or 38.2%, for
the year ended December 31, 1998 from $80.2 million for the year ended December
31, 1997. The increase was primarily attributable to an increase in the number
of client-serving consultants hired during the period to respond to the
Company's growth. Cost of services as a percentage of revenue decreased to 56.5%
for the year ended December 31, 1998 from 58.5% for the year ended December 31,
1997. This decrease was primarily attributable to increased realization of
standard and target fees.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased to $63.3 million, or 42.1%, for the year ended
December 31, 1998 from $44.6 million for the year ended December 31, 1997.
General and administrative expenses as a percentage of revenue decreased
slightly to 32.2% for the year ended December 31, 1998 from 32.5% for the year
ended December 31, 1997. These expenses are principally related to increases in
administrative expenses to support FCG's growth and increased consulting
capacity. The dollar increase reflects the Company's continued emphasis on its
investment in recruiting, professional development and training, and
geographical expansion to support the growth of its business.
MERGER RELATED COSTS. Merger related costs increased to $6.0 million for the
year ended December 31, 1998 from zero for the year ended December 31, 1997.
This increase was primarily attributable to costs incurred with the definitive
agreement between FCG and ISCG, and secondarily, the costs as a result of the
termination of a potential business combination contemplated by ISCG prior to
the definitive merger agreement between FCG and ISCG.
COMPENSATION EXPENSES RELATED TO STOCK ISSUANCES. Compensation expenses related
to stock issuances decreased to zero for the year ended December 31, 1998 from
$6.1 million for the year ended December 31, 1997. This decrease was
attributable to the discontinuance of certain compensatory stock and option
issuances.
INTEREST INCOME, NET. Interest income, net of interest expense, increased to
$2.3 million for the year ended December 31, 1998 from $392,000 for the year
ended December 31, 1997. Interest income net of interest expense as a percentage
of revenue increased to 1.2% for the year ended December 31, 1998 from 0.3% for
the year ended December 31, 1997. This increase was primarily attributable to
the investment of net proceeds from FCG's initial public offering in February
1998.
INCOME TAXES. Income taxes as a percentage of income before income taxes
decreased to 55.4% for the year ended December 31, 1998 from 65.7% for the year
ended December 31, 1997 due to a reduction in certain non-deductible
compensation related expenses partly offset by certain non-deductible merger
related costs in the current period.
22
COMPARISON OF THE YEARS ENDED DECEMBER 31, 1997 AND 1996
NET REVENUE. FCG's net revenue increased to $137.1 million, or 39.3%, for the
year ended December 31, 1997 from $98.4 million for the year ended December 31,
1996. This increase was primarily attributable to an increase in revenue and
client-serving consultants' utilization from FCG's core business service lines
including application development, integration services, implementation
services, and operations effectiveness.
COST OF SERVICES. Cost of services increased to $80.2 million, or 34.9%, for the
year ended December 31, 1997 from $59.5 million for the year ended December 31,
1996. The increase was primarily attributable to an increase in the number of
client-serving consultants. Cost of services as a percentage of revenue
decreased to 58.5% for the year ended December 31, 1997 from 60.4% for the year
ended December 31, 1996. This decrease was primarily attributable to increased
utilization rates for FCG's consultants during the year ended December 31, 1997.
FCG believes that the increase in utilization rates was primarily attributable
to the discontinuation of certain incentive programs and the resulting
reallocation of billable resources to projects across geographic regions.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative
expenses increased to $44.6 million, or 37.6%, for the year ended December 31,
1997 from $32.4 million for the year ended December 31, 1996. This increase was
primarily attributable to FCG's relocation to a larger corporate facility,
increases in facilities costs (office rent and utilities) and facility related
costs (such as depreciation of computer equipment, amortization of software and
leasehold improvements, expansion of computer networks, additional software
costs and the costs of related support personnel), recruiting expenses, an
increase in non-billable personnel relating to an increase in the number of
client-serving personnel, expanded marketing initiatives, expansion into the
United Kingdom, and continued efforts to enhance and improve FCG's internal
infrastructure including upgrades to its management information systems. General
and administrative expenses as a percentage of revenue decreased to 32.5% for
the year ended December 31, 1997 from 32.9% for the year ended December 31,
1996.
COMPENSATION EXPENSES RELATED TO STOCK ISSUANCES. Compensation expenses related
to stock issuances increased to $6.1 million for the year ended December 31,
1997 from $588,000 for the year ended December 31, 1996. This increase was
primarily attributable to a $4.2 million non-cash charge associated with an
allocation of 568,000 shares of FCG Common Stock to employees pursuant to a
one-time modification of the ASOP and a non-recurring compensation expense of
$1.2 million resulting from the difference between estimated average fair market
value and cost of the allocated ASOP shares.
INTEREST INCOME, NET. Interest income, net of interest expense, decreased to
$392,000 for the year ended December 31, 1997 from $396,000 for the year ended
December 31, 1996. Interest income net of interest expense as a percentage of
revenue decreased to 0.3% for the year ended December 31, 1997 from 0.4% for the
year ended December 31, 1996.
INCOME TAXES. Income taxes as a percentage of income before income taxes
increased to 65.7% for the year ended December 31, 1997 from 43.5% for the year
ended December 31, 1996 due to an increase in certain non-deductible
compensation related expenses.
23
QUARTERLY FINANCIAL RESULTS
The following table sets forth certain unaudited statements of operations data
for the eight quarters ended December 31, 1998, as well as such data expressed
as a percentage of the Company's net revenue for the periods indicated. This
data has been derived from unaudited financial statements that, in the opinion
of the Company's management, include all adjustments (consisting only of normal
recurring adjustments) necessary for a fair presentation of such information
when read in conjunction with the Company's annual audited consolidated
financial statements and the notes thereto. The operating results for any
quarter are not necessarily indicative of the results for any future period.
UNAUDITED QUARTERLY STATEMENTS OF OPERATIONS
(In Thousands, Except Per Share Data)
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------
1998
Net revenue.......................................... $43,569 $47,792 $51,082 $53,847
Cost of services..................................... 25,489 26,589 28,550 30,208
------- ------- ------- -------
Gross profit.................................. 18,080 21,203 22,532 23,639
General and administrative expenses.................. 13,811 15,373 16,433 17,673
Merger related cost.................................. - - 486 5,555
------- ------- ------- -------
Income from operations........................ 4,269 5,830 5,613 411
Interest income (expense), net....................... 423 545 593 746
Other income, net.................................... 27 8 13 7
------- ------- ------- -------
Income before income taxes.................... 4,719 6,383 6,219 1,164
Provision for income taxes........................... 1,927 3,048 2,848 2,411
------- ------- ------- -------
Net income (loss)............................. $2,792 $3,335 $3,371 $(1,247)
======= ======= ======= =======
Diluted net income (loss) per share $0.13 $0.14 $0.14 $(0.06)
======= ======= ======= =======
1997
Net revenue.......................................... $29,635 $32,474 $36,544 $38,468
Cost of services..................................... 17,567 18,903 21,189 22,532
------- ------- ------- -------
Gross profit.................................. 12,068 13,571 15,355 15,936
General and administrative expenses.................. 9,714 10,561 11,970 12,309
Compensation expenses related to stock issuances..... 523 523 815 4,199
------- ------- ------- -------
Income (loss) from operations................. 1,831 2,487 2,570 (572)
Interest income (expense), net....................... 123 77 89 103
Other income, net.................................... 91 10 9 9
------- ------- ------- -------
Income (loss) before income taxes............. 2,045 2,574 2,668 (460)
Provision for income taxes........................... 959 1,207 1,226 1,096
------- ------- ------- -------
Net income (loss)............................. $1,086 $1,367 $1,442 $(1,556)
======= ======= ======= =======
Diluted net income (loss) per share $0.06 $0.08 $0.08 $(0.09)
======= ======= ======= =======
24
PERCENTAGE OF NET REVENUE
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------
1998
Net revenue.......................................... 100.0% 100.0% 100.0% 100.0%
Cost of services..................................... 58.5 55.6 55.9 56.1
------- ------- ------- -------
Gross profit.................................. 41.5 44.4 44.1 43.9
General and administrative expenses.................. 31.7 32.2 32.2 32.8
Merger related cost.................................. 0.0 0.0 1.0 10.3
------- ------- ------- -------
Income from operations........................ 9.8 12.2 11.0 0.8
Interest income (expense), net....................... 1.0 1.1 1.2 1.4
Other income, net.................................... 0.1 0.0 0.0 0.0
------- ------- ------- -------
Income before income taxes.................... 10.8 13.4 12.2 2.2
Provision for income taxes........................... 4.4 6.4 5.6 4.5
------- ------- ------- -------
Net income (loss)............................. 6.4% 7.0% 6.6% (2.3%)
======= ======= ======= =======
1997
Net revenue.......................................... 100.0% 100.0% 100.0% 100.0%
Cost of services..................................... 59.3 58.2 58.0 58.6
------- ------- ------- -------
Gross profit.................................. 40.7 41.8 42.0 41.4
General and administrative expenses.................. 32.8 32.5 32.8 32.0
Compensation expenses related to stock issuances..... 1.8 1.6 2.2 10.9
------- ------- ------- -------
Income (loss) from operations................. 6.2 7.7 7.0 (1.5)
Interest income (expense), net....................... 0.4 0.2 0.2 0.3
Other income, net.................................... 0.3 0.0 0.0 0.0
------- ------- ------- -------
Income (loss) before income taxes............. 6.9 7.9 7.3 (1.2)
Provision for income taxes........................... 3.2 3.7 3.4 2.8
------- ------- ------- -------
Net income (loss)............................. 3.7 4.2 3.9 (4.0)
======= ======= ======= =======
A substantial portion of the Company's expenses, particularly depreciation,
office rent and occupancy costs, and, in the short run, personnel and related
costs are relatively fixed. Certain client-reimbursable costs are offset against
expenses incurred, and are not included in recognized revenues. The Company's
quarterly operating results may vary significantly in the future depending on a
number of factors, many of which are outside the control of the Company. These
factors may include: the reduction in size, delay in commencement, interruption
or termination of one or more significant engagements or assignments;
fluctuations in consultant hiring and utilization; the loss of personnel; the
loss of one or more significant clients; the unpredictability of engaging new
clients and additional assignments from existing clients; increased competition;
write-offs of client billings; consolidation of, and subsequent reduction in the
number of, healthcare providers; pricing pressure; the number, timing and
contractual terms of significant client engagements; market demand for the
Company's services; delays or increased expenses incurred in connection with
existing assignments; changes in pricing policies by the Company or its
competitors; changes in the Company's business strategies; variability in the
number of business days within a quarter; and international currency
fluctuations. Due to the foregoing factors, quarterly revenue and operating
results are not predictable with any significant degree of accuracy. In
particular, the timing between initial
25
client contract and fulfillment of the criteria necessary for revenue
recognition can be lengthy and unpredictable, and revenue in any given quarter
can be materially adversely affected as a result of such unpredictability.
Business practices of clients, such as deferring commitments on new assignments
until after the end of fiscal periods, could require the Company to maintain a
significant number of under-utilized consultants which could have a material
adverse effect on the Company's business, financial condition and results of
operations.
The Company has experienced and will continue to experience variability in the
number of billable days in any quarter. The Company typically experiences a
lower number of billable days in the second and fourth quarters of every year.
The Company requires attendance at an annual meeting of nearly two-thirds of its
employees in the second quarter of every year and encourages its employees to
take vacation during the December holidays. Variability in the number of
billable days may also result from other factors such as vacation days, sick
time, paid and unpaid leave, inclement weather, and holidays, all of which could
produce variability in the Company's revenue and costs. In the event of any
downturn in potential clients' businesses or the economy in general, planned
utilization of the Company's services may be deferred or canceled, which could
have a material adverse effect on the Company's business, financial condition
and results of operations. Based on the preceding factors, the Company may
experience a shortfall in revenue or earnings from expected levels or otherwise
fail to meet expectations of securities analysts or the market in general, which
could have a material adverse effect on the market price of the Common Stock.
LIQUIDITY AND CAPITAL RESOURCES
During the year ended December 31, 1998, the Company generated cash flow from
operations of $8.7 million. During the year ended December 31, 1998, the Company
used cash flow of approximately $7.1 million to purchase property and equipment,
including computer and related equipment and office furniture. Depreciation and
amortization expense for the year ended December 31, 1998 was approximately $5.6
million. During the year ended December 31, 1998, the Company generated cash
flow of $42.2 million from financing activities. At December 31, 1998, the
Company had working capital of $66.9 million and long-term investments of $5.6
million. At December 31, 1997, the Company had working capital of $25.4 million.
The primary reason for the increase in working capital and long-term investments
was the completion of the Company's initial public offering in February 1998.
Essentially all of the $44.7 million of IPO proceeds were retained as cash or
investments at December 31, 1998.
The Company had a $6,000,000 revolving line of credit which was available
through December 1, 1998, at the bank's prevailing prime rate. The line was
subsequently renewed through May 1, 2000 and increased to $9,000,000. The
Company also had a $1,000,000 line of credit which had been negotiated by ISCG,
and was terminated in December 1998 upon the consummation of the merger between
FCG and ISCG. The Company has a note payable to the bank with a remaining
balance of $240,000 at December 31, 1998. The note bears interest at the bank's
prime rate plus 0.5% and is payable in monthly installments of $4,000 plus
interest with the last installment due July 1, 2003. All borrowings under the
Company's credit facilities are secured by the Company's accounts receivable and
other rights to payment, general intangibles and equipment. The line of credit
agreement provides that the Company must satisfy certain covenants and
restrictions.
YEAR 2000 COMPLIANCE
Many existing computer programs and systems, including those used by FCG's
clients, use only two digits to identify the year in the date field. These
programs may be unable to process date/time information between the twentieth
and twenty-first centuries. This inability could cause the disruption or failure
of such computer systems (the "Y2K Problem"). Solving the Y2K Problem will
require a large amount of time and resources. FCG's clients may have to
reallocate a significant portion of their budgets
26
away from FCG's services to address this problem. Such reallocations would have
a material adverse effect on FCG's business, financial condition and results of
operations. Currently, FCG is not able to predict the extent to which its
clients will divert their resources to the Y2K Problem or to estimate the
impact, if any, this may have on FCG's revenues. In addition, business
interruptions experienced by FCG's clients due to the Y2K Problem could result
in reduced demand for FCG's services or delay in the payment of FCG's invoices.
Such interruptions could have a material adverse effect on FCG's business.
Additionally, FCG's current time and billing systems for its internal use are
not Y2K compliant. FCG has purchased an upgrade to these systems that will
render them Y2K compliant and expects to complete deployment of this upgrade in
the second quarter of 1999. The Company estimates that the cost of such upgrade
will be less than $100,000. There can be no assurance that such deployment will
begin as planned or, if begun, will be completed in a timely and cost-effective
manner.
The computer systems of third parties with whom FCG regularly deals could be
disrupted or fail, causing an interruption or decrease in FCG's ability to
continue its operations. FCG relies on third party relationships in the conduct
of its business, including suppliers, vendors, utilities, financial institutions
and others. FCG has created a list of the third parties it believes are material
to its operations and is attempting to obtain written assurances from them that
there will be no interruption of service as a result of the Y2K Problem. Where
such assurances are not given, FCG intends, where practical, to devise
contingency plans to allow FCG to operate in the event of Y2K-related service
interruption. It is possible that FCG will experience interruptions in third
party services despite vendors' assurances otherwise, and that FCG will not be
able to develop contingency plans to meet individual or multiple third party
failures, resulting in an operations interruption that could materially
adversely affect FCG's business.
FCG could be exposed to liabilities if any of the custom applications designed,
built or modified by FCG for its clients are disrupted or fail. FCG believes it
is likely that certain custom software applications it designed, built or
modified in the past are non-Y2K compliant. FCG has not made a determination of
which custom applications may not be Y2K compliant. Further, FCG has not
determined the extent to which it may be legally responsible for either (1)
fixing any non-Y2K compliant applications or (2) the consequences of such
non-compliance. FCG has not quantified the impact that the foregoing risk could
have on its business. To better estimate the scope of this potential problem,
FCG is planning to review representative samples of the custom applications it
has worked on in its larger engagements in the past three years. To the extent
this review indicates that any of such applications are not Y2K compliant, FCG
will evaluate whether such non-compliance may result in liability for FCG. Even
in the absence of legal liability, FCG may determine that it is in FCG's best
interests to offer to fix non-compliant applications under a variety of
arrangements including at no charge or at rates below FCG's normal rates. The
failure of custom software applications delivered by FCG in the past to be Y2K
compliant, and the liability or the need to devote additional resources that
could result from such failure, could have a material adverse effect on FCG's
business.
FCG has not yet devised, and may not be able to devise, a contingency plan that
will adequately address all Y2K Problem. Because of the uncertainty surrounding
the Y2K Problem, unforeseen and unpredictable costs and liabilities associated
with the Y2K Problem could materially adversely impact the business, prospects,
financial condition and results of operations of FCG.
27
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's annual consolidated financial statements are included in Item 14
of this Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
28
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT
The information required by this item is incorporated by reference to the
similarly named section of the Registrant's Proxy Statement for its 1999 Annual
Meeting to be filed with the Securities and Exchange Commission not later than
April 30, 1999 (the "1999 Proxy").
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the
similarly named section of the Registrant's 1999 Proxy.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference to the
similarly named section of the Registrant's 1999 Proxy.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference to the
similarly named section of the Registrant's 1999 Proxy.
29
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT, SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) The following financial statements are filed as part of this Annual
Report on Form 10-K:
PAGE
o Consolidated Balance Sheets-- December 31, 1998 and
December 31, 1997 ...................................................... 31
o Consolidated Statements of Operations -- Years Ended
December 31, 1998, 1997 and 1996 ....................................... 32
o Consolidated Statement of Changes in Stockholders' Equity --
For the Three Years Ended December 31, 1998, 1997 and 1996.............. 33
o Consolidated Statements of Cash Flows -- Years Ended December 31, 1998,
1997 and 1996........................................................... 34
o Consolidated Statements of Comprehensive Income -- Years Ended
December 31, 1998, 1997 and 1996........................................ 35
o Notes to Consolidated Financial Statements.............................. 36
o Reports of Independent Certified Public Accountants..................... 53
(2) The following financial statements schedule for the years ended December
31, 1998 and 1997, read in conjunction with the financial statements of
First Consulting Group, Inc., is filed as part of this Annual Report on
Form 10-K.
o Schedule II -- Valuation and Qualifying Accounts........................ 55
Schedules other than that listed above have been omitted since they are
either not required, not applicable, or because the information required is
included in the financial statements or the notes thereto.
(3) The exhibits listed in the Index to Exhibits hereof are attached
hereto or incorporated herein by reference and filed as apart of this
Report.
(b) Reports on Form 8-K.
On November 12, 1998, the Company filed a report on Form 8-K relating to
the Company's merger with Integrated Systems Consulting Group, Inc.
On December 18, 1998, the Company filed a report on Form 8-K relating to
the Company's merger with Integrated Systems Consulting Group, Inc.
30
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In Thousands, Except Share Data)
AS OF DECEMBER 31,
-----------------------------
1998 1997
------------ ------------
ASSETS
Current Assets
Cash and cash equivalents ................................................. $ 20,737 $ 12,187
Short-term investments .................................................... 27,168 601
Accounts receivable, less allowance of $1,449 and $812 in 1998 and 1997,
respectively .............................................................. 36,955 21,030
Work in process ........................................................... 13,185 8,178
Prepaid expenses and other current assets ................................. 2,565 2,426
------------ ------------
Total current assets ................................................ 100,610 44,422
Notes receivable - stockholders (Note E) ......................................... 1,803 1,679
Long-term investments ............................................................ 5,644 --
Property and equipment
Furniture, equipment, and leasehold improvements .......................... 5,418 4,013
Information systems equipment ............................................. 17,528 13,243
------------ ------------
22,946 17,256
Less accumulated depreciation and amortization ................................... 11,932 8,295
------------ ------------
11,014 8,961
Other assets
Executive benefit trust (Note G) .......................................... 3,709 2,506
Deferred income taxes ..................................................... 763 --
Goodwill, net ............................................................. 6,134 1,413
Other ..................................................................... 784 313
------------ ------------
11,390 4,232
------------ ------------
Total assets ........................................................ $ 130,461 $ 59,294
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Line of credit ............................................................ $ -- $ 2,000
Current portion of long-term debt (Note C) ................................ 67 871
Accounts payable .......................................................... 2,150 1,588
Accrued liabilities ....................................................... 8,090 3,154
Accrued vacation .......................................................... 2,655 1,923
Accrued bonuses ........................................................... 3,149 909
Deferred revenue .......................................................... 491 420
Customer advances ......................................................... 2,416 1,965
Income taxes payable ...................................................... 8,355 439
Deferred income taxes (Note D) ............................................ 6,318 5,765
------------ ------------
Total current liabilities ........................................... 33,691 19,034
Non-current liabilities
Long-term debt, net of current portion (Note C) ........................... 238 262
Supplemental executive retirement plan (Note G) ........................... 3,946 2,506
Deferred income taxes (Note D) ............................................ -- 447
------------ ------------
Total non-current liabilities ....................................... 4,184 3,215
Commitments and contingencies (Note K) ........................................... -- --
Potential put obligation related to ASOP and capital stock (Notes H and I) ....... -- 9,965
Stockholders' equity
Preferred stock, $.001 par value; 10,000,000 shares authorized, no shares
issued and outstanding .................................................... -- --
Common Stock, $.001 par value; 50,000,000 shares authorized, 22,600,773 and
19,295,380 shares issued and outstanding at December 31, 1998 and 1997,
respectively ............................................................ 23 19
Additional paid in capital ................................................ 83,611 33,530
Treasury stock, at cost, zero in 1998 and 980,734 shares in 1997 .......... -- (632)
Retained earnings ......................................................... 21,850 13,719
Deferred compensation - stock incentive agreements (Notes A and H) ........ (4,058) (3,635)
Unearned ASOP shares (Note I) ............................................. (739) (853)
Notes receivable - stockholders (Note E) .................................. (8,181) (5,134)
Accumulated other comprehensive income .................................... 80 31
Potential put obligation related to ASOP and capital stock (Notes H and I) -- (9,965)
------------ ------------
Total stockholders' equity .......................................... $ 92,586 $ 27,080
------------ ------------
Total liabilities and stockholders' equity .......................... $ 130,461 $ 59,294
============ ============
- --------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
31
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands, Except Per Share Data)
YEAR ENDED DECEMBER 31,
-----------------------------------
1998 1997 1996
--------- --------- ---------
Net revenue ............................................. $ 196,290 $ 137,121 $ 98,412
Cost of services ........................................ 110,836 80,191 59,454
--------- --------- ---------
Gross profit .............................. 85,454 56,930 38,958
General and administrative expenses ..................... 63,290 44,554 32,387
Merger related costs .................................... 6,041 -- --
Compensation expenses related to stock issuances (Note H) -- 6,060 588
--------- --------- ---------
Income from operations .................... 16,123 6,316 5,983
Other income
Interest income .................................. 2,381 706 643
Interest expense ................................. (74) (314) (247)
Other income, net ................................ 55 119 44
--------- --------- ---------
Income before income taxes ................ 18,485 6,827 6,423
Provision for income taxes .............................. 10,234 4,488 2,797
--------- --------- ---------
Net income ................................ $ 8,251 $ 2,339 $ 3,626
--------- --------- ---------
Basic net income per share .............................. $ 0.38 $ 0.14 $ 0.26
--------- --------- ---------
Shares used in computing basic net income per share ..... 21,567 16,234 14,142
Diluted net income per share ............................ $ 0.36 $ 0.13 $ 0.23
--------- --------- ---------
Shares used in computing diluted net income per share ... 23,010 17,471 15,505
- --------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
32
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY--
FOR THE THREE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
(In Thousands)
NOTES
RECEIV
COMMON STOCK COMPRE- DEFERRED UNEARNED ABLE- PUT TREA-
------------- RETAINED HENSIVE COMPEN- ASOP STOCK OBLIG- SURY
SHARES AMOUNT APIC EARNINGS INCOME SATION SHARES HOLDERS ATION STOCK TOTAL
------ ------ ------- -------- ------ -------- -------- ------- ------ ------ -------
BALANCE, JANUARY 1, 1996 15,618 $16 $11,363 $ 8,694 $ - $(1,593) $(4,000) $(1,469) $(5,300) $(672) $ 7,039
Redemption of Common Stock (28) - (40) - - - - - - - (40)
Purchase of treasury stock, at
cost - - - - - - - - - (26) (26)
Issuance of Common Stock under
the RSAs 560 - 1,953 - - (1,048) - (481) - - 424
Compensation recognized under the
RSAs - - - - - 308 - - - - 308
Common Stock released under the
ASOP - - 272 - - - 775 - - - 1,047
Interest income on stockholders'
notes receivable - - - - - - - (93) - - (93)
Issuance of new Common Stock to
the ASOP 96 - 362 - - - - - - - 362
Increase of put obligation - - - - - - - - (1,358) - (1,358)
Excess income tax benefits
attributed to exercised stock
options - - 385 - - - - - - - 385
Exercise of stock options 27 - 43 - - - - - - 24 67
Issuance of Common Stock in
public offering 1,675 2 9,867 - - - - - - - 9,869
Net income - - - 3,626 - - - - - - 3,626
Foreign currency translation
adjustments - - - - 29 - - - - - 29
Payment of distributions to
shareholders of predecessor
companies prior to acquisition - - - (25) - - - - - - (25)
------ --- ------- ------- ---- ------- ------- ------- ------- ----- -------
BALANCE, DECEMBER 31, 1996 17,948 18 24,205 12,295 29 (2,333) (3,225) (2,043) (6,658) (674) 21,614
Redemption of Common Stock (64) - (305) - - - - - - - (305)
Issuance of Common Stock under
the RSAs 1,347 1 4,898 - - (1,847) - (2,825) - - 227
Compensation recognized under the
RSAs - - - - - 545 - - - - 545
Common Stock released under the
ASOP - - 3,990 - - - 2,677 - - - 6,667
Interest income on stockholders'
notes receivable - - - - - - - (266) - - (266)
Issuance of new Common Stock to
the ASOP 64 - 305 - - - (305) - - - -
Increase of put obligation - - - - - - - - (3,307) - (3,307)
Excess income tax benefits
attributed to exercised stock
options - - 395 - - - - - - - 395
Exercise of stock options - - 42 - - - - - - 42 84
Issuance of Common Stock in
public offering - - - - - - - - - - -
Net income - - - 2,339 - - - - - - 2,339
Foreign currency translation
adjustments - - - - 2 - - - - - 2
Payment of distributions to
shareholders of predecessor
companies prior to acquisition - - - (915) - - - - - - (915)
------ --- ------- ------- ---- ------- ------- ------- ------- ----- -------
BALANCE, DECEMBER 31, 1997 19,295 19 33,530 13,719 31 (3,635) (853) (5,134) (9,965) (632) 27,080
Issuance of Common Stock under
the RSAs 362 - 5,093 - - (1,158) - (2,698) - - 1,237
Compensation recognized under the
RSAs - - - - - 735 - - - - 735
Common Stock released under the
ASOP - - 560 - - - 114 - - 674
Interest income on stockholders'
notes receivable - - - - - - - (349) - - (349)
Elimination of put obligation - - - - - - - - 9,965 - 9,965
Excess income tax benefits
attributed to exercised stock
options - - 26 - - - - - - - 26
Exercise of stock options - - 260 - - - - - - 78 338
Issuance of Common Stock in
public offering 3,802 4 44,696 - - - - - - - 44,700
Cancellation of treasury stock (859) - (554) - - - - - - 554 -
Net income - - - 8,251 - - - - - - 8,251
Unrealized gain on securities - - - - 71 - - - - - 71
Foreign currency translation
adjustments - - - - (22) - - - - - (22)
Payment of distributions to
shareholders of predecessor
companies prior to acquisition - - - (120) - - - - - - (120)
------ --- ------- ------- ---- ------- ------- ------- ------- ----- -------
BALANCE, DECEMBER 31, 1998 22,601 $23 $83,611 $21,850 $ 80 $(4,058) $ (739) $(8,181) $ - $ - $92,586
====== === ======= ======= ==== ======= ======= ======= ======= ===== ======
- --------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
33
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
YEAR ENDED DECEMBER 31,
-----------------------------------
1998 1997 1996
--------- --------- ---------
Cash flows from operating activities:
Net income ............................................... $ 8,251 $ 2,339 $ 3,626
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization ........................ 5,650 3,796 2,464
Provision for bad debts .............................. 637 417 83
Deferred income taxes ................................ (657) 1,492 261
Loss on sale of assets ............................... 183 16 5
Compensation from stock issuances .................... 1,409 8,093 1,830
Interest income on notes receivable - stockholders ... (455) (266) (93)
Change in assets and liabilities:
Accounts receivable .................................. (16,562) (7,354) 2,554
Work in process ...................................... (5,007) (913) (6,448)
Prepaid expenses and other current assets ............ (1,253) 477 (358)
Income tax receivable ................................ 1,114 (1,114) (558)
Other assets ......................................... (471) 656 (251)
Accounts payable ..................................... 426 (1,378) (401)
Accrued liabilities .................................. 4,560 1,071 (877)
Accrued vacation ..................................... 732 360 1,727
Accrued bonuses ...................................... 2,240 (195) --
Deferred revenue ..................................... 71 391 --
Customer advances .................................... 451 1,965 --
Income tax payable ................................... 7,118 412 --
Supplemental executive retirement plan ............... 237 -- --
Other ................................................ (22) 228 (206)
--------- --------- ---------
Net cash provided by operating activities .......... 8,652 10,493 3,358
--------- --------- ---------
Cash flows from investing activities:
Issuance of notes receivable ............................. (18) (2,554) (709)
Payments on notes receivable ............................. 906 1,232 648
Purchase of investments .................................. (539,176) (10,414) (15,942)
Proceeds from sale/maturity of investments ............... 507,036 12,350 13,405
Purchase of property and equipment ....................... (7,098) (5,261) (5,825)
Acquisition of business, net of cash acquired ............ (3,905) (1,894) --
Proceeds from disposals of property and equipment ........ 19 -- --
--------- --------- ---------
Net cash used in investing activities .............. (42,236) (6,541) (8,423)
Cash flows from financing activities:
Net borrowings (payments) on line of credit .............. (2,000) 2,000 --
Proceeds from issuance of long-term debt ................. 44 147 --
Principal payments on long-term debt ..................... (872) (2,681) (670)
Proceeds from issuance of capital stock .................. 45,082 89 10,183
Distributions to shareholders of acquired companies ...... (120) (915) (25)
Capital stock repurchase ................................. -- -- (42)
--------- --------- ---------
Net cash provided by (used in) financing activities 42,134 (1,360) 9,446
Net change in cash and cash equivalents ............ 8,550 2,592 4,381
Cash and cash equivalents at beginning of period ........... 12,187 9,595 5,214
--------- --------- ---------
Cash and cash equivalents at end of period ................. $ 20,737 $ 12,187 $ 9,595
========= ========= =========
Cash paid during the period for:
Interest ................................................. $ 95 $ 313 $ 333
Income taxes ............................................. $ 3,372 $ 2,527 $ 2,912
- --------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
34
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In Thousands, Except Per Share Data)
YEAR ENDED DECEMBER 31,
----------------------------
1998 1997 1996
------- ------- -------
Net income ............................................ $ 8,251 $ 2,339 $ 3,626
Other comprehensive income, net of tax
Foreign currency translation adjustments ............ (22) 2 29
Unrealized holding gains on securities during period: 71 -- --
Less reclassification adjustment for gains included
in net income ................................... -- -- --
------- ------- -------
Other comprehensive income ...................... 49 2 29
------- ------- -------
Comprehensive income ............................ $ 8,300 $ 2,341 $ 3,655
======= ======= =======
- --------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
35
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF BUSINESS
First Consulting Group, Inc. and its subsidiaries (the "Company") is a leading
provider of information technology and other consulting services primarily for
healthcare providers, payors, other healthcare organizations, and
pharmaceutical/life science firms. The Company's services are designed to assist
its clients in increasing operations effectiveness by reducing cost, improving
customer service and enhancing the quality of patient care. The Company provides
this expertise to clients by assembling multi-disciplinary teams which provide
comprehensive services across its four principal services: consulting, software
implementation, network and application integration and co-management services.
The Company's services and consultants are supported by internal research and a
centralized information system which provides real-time access to current
industry and technology information, project methodologies, experiences and
tools.
1. PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of First
Consulting Group, Inc. and its wholly-owned subsidiaries. All material
intercompany accounts and transactions have been eliminated.
2. CASH AND CASH EQUIVALENTS
The Company considers all highly liquid debt instruments purchased with an
original maturity of three months or less to be cash equivalents.
3. PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and amortization
are provided on a straight-line basis in amounts sufficient to relate the cost
of depreciable assets to operations over their estimated service lives, which
are three to five years for information systems equipment, and three to ten
years for furniture and equipment. Leasehold improvements are amortized over the
lives of the respective leases or the service lives of the improvements,
whichever is shorter.
4. WORK IN PROCESS
Work in process represents the recognized net revenue for services
performed that had not been billed to clients at the balance sheet date. Such
amounts are billed as project requisites are met.
5. INCOME TAXES
The Company accounts for income taxes on the liability method under which
deferred tax liabilities (assets) are determined based on the differences
between the financial statement and tax bases of assets and liabilities as
measured by the enacted tax rates which will be in effect when these differences
reverse. Deferred tax expense (benefit) is equal to the change in the deferred
tax liability (asset) from the beginning to the end of the year. A current tax
asset or liability is recognized for the estimated taxes refundable or payable
for the current year.
36
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A --SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
6. PUT OBLIGATIONS
Prior to the Company's February, 1998 initial public offering, the
stockholders of the Company, including the Associate 401(k) and Stock Ownership
Plan ("ASOP"), had the ability to require the Company to repurchase their shares
upon the occurrence of certain conditions, which were outside the control of the
Company (see Notes H and I). As such, the Company reflected estimated
obligations related to these repurchase commitments outside of equity in the
accompanying financial statements for 1997.
7. REVENUE RECOGNITION
The Company generates substantially all of its revenue from fees for
professional services. The Company typically bills for its services on an
hourly, fixed-fee or fixed-fee per month basis. For services billed on an hourly
basis, the Company recognizes revenue as services are performed. For services
billed on a fixed-fee or fixed-fee per month basis, the Company recognizes
revenue using the percentage of completion method. Revenue is recorded as
incurred at assignment rates net of any adjustments due to specific engagement
situations.
8. STOCK-BASED COMPENSATION
The Company accounts for stock-based employee compensation as prescribed by
APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and has adopted
the disclosure provisions of Statement of Financial Accounting Standards 123,
ACCOUNTING FOR STOCK-BASED COMPENSATION ("SFAS 123"). SFAS 123 requires pro
forma disclosures of net income and net income per share as if the fair value
based method of accounting for stock-based awards had been applied. Under the
fair value based method, compensation cost is recorded based on the value of the
award at the grant date and is recognized over the service period.
9. BASIC AND DILUTED NET INCOME PER SHARE
Basic net income per share is based upon the weighted average number of
common shares outstanding. Diluted net income per share is based on the
assumption that convertible shares and stock options were converted or
exercised. Dilution is computed by applying the treasury stock method. Under
this method, options and warrants are assumed to be exercised at the beginning
of the period (or at the time of issuance, if later), and as if funds obtained
thereby were used to purchase Common Stock at the average market price during
the period. ASOP shares that have not been committed to be released are not
treated as outstanding when determining the weighted average number of shares
for either basic or diluted net income per share. All share and per share data
amounts have been adjusted to reflect a four-for-one stock split in January
1998.
10. CREDIT RISKS
Financial instruments that subject the Company to concentrations of credit
risks consist primarily of billed and unbilled accounts receivable. The
Company's clients are primarily involved in the healthcare and pharmaceutical
industries. Concentrations of credit risk with respect to billed and unbilled
accounts receivable are limited due to the Company's credit evaluation process
and the nature of its clients. Historically, the Company has not incurred
significant credit-related losses.
37
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A --SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
11. FAIR VALUE OF FINANCIAL INSTRUMENTS
Management believes the fair value of financial instruments approximates
their carrying amounts. The carrying value of cash and cash equivalents
approximates their estimated fair values. Investments available for sale are
carried at fair value. Management believes the fair values of notes payable and
stockholders' notes receivable approximate their carrying values based on
current rates for instruments with similar characteristics.
12. GOODWILL
Goodwill and other intangibles are amortized on a straight-line basis over
periods estimated to be benefited, generally five to ten years. Accumulated
amortization, at December 31, 1998 and 1997, was $807,000 and $101,000,
respectively. The Company periodically assesses the recoverability of the cost
of its goodwill based on a review of projected undiscounted cash flows of the
related operating entities.
13. DEFERRED COMPENSATION -- STOCK INCENTIVE AGREEMENTS
In accordance with APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO
EMPLOYEES, with regard to certain stock issued prior to the initial public
offering, the Company recorded a charge to deferred compensation when it granted
options or sold stock to officers or employees at an exercise price which was
less than the fair market value of such shares. Amounts recorded as deferred
compensation are amortized over the appropriate service period based upon the
vesting schedule for such grants (generally ten years).
14. USE OF ESTIMATES
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
15. FOREIGN CURRENCY TRANSLATION
Assets and liabilities of the Company's foreign affiliates are translated
at current exchange rates, while revenue and expenses are translated at average
rates prevailing during the year. Translation adjustments are reported as a
component of other comprehensive income.
16. RECLASSIFICATIONS
Certain reclassifications have been made to the 1997 and 1996 financial
statements to conform to the 1998 presentation.
38
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE B -- BUSINESS COMBINATIONS
In December 1998, FCG completed a merger with Integrated Systems Consulting
Group, Inc. (ISCG), by exchanging approximately 6,240,000 shares of its Common
Stock for all of the Common Stock of ISCG. Each share of ISCG was exchanged for
.77 of one share of FCG Common Stock. In addition, outstanding ISCG employee
stock options were converted at the same exchange factor into options to
purchase approximately 633,000 shares of FCG Common Stock. In December 1998, FCG
also completed a merger with Pareto Consulting Ltd. (Pareto), by exchanging
147,531 shares of FCG Common Stock for all of the shares of Pareto.
The mergers with ISCG and Pareto have been accounted for as poolings of
interests. Accordingly, all prior period consolidated financial statements
presented have been restated to include the combined results of operations,
financial position and cash flows of ISCG and Pareto as though they had always
been a part of FCG.
Prior to the merger, Pareto's fiscal year ended on April 30. In recording the
business combination, Pareto's prior period financial statements have been
restated to a year ended December 31, to conform to FCG's fiscal year-end.
Certain immaterial adjustments and reclassifications were made to the ISCG and
Pareto financial statements to conform to FCG's presentations. The results of
operations for the separate companies and the combined amounts presented in the
consolidated financial statements are as follows:
YEAR ENDED DECEMBER 31,
--------------------------------------------
(In thousands) 1998 1997 1996
--------- --------- ---------
Net revenue
FCG ..................... $ 130,714 $ 91,570 $ 65,822
ISCG .................... 62,976 43,178 30,607
Pareto .................. 2,600 2,373 1,983
--------- --------- ---------
Combined ............. $ 196,290 $ 137,121 $ 98,412
Net income
FCG ..................... $ 5,972 $ (1,534) $ 394
ISCG .................... 2,095 3,513 3,004
Pareto .................. 184 360 228
--------- --------- ---------
Combined ............. $ 8,251 $ 2,339 $ 3,626
In connection with the mergers, the Company recorded in the fourth quarter of
1998 a charge to operating expenses of $5.6 million for direct and other
merger-related costs. Merger-related costs consisted primarily of fees for
investment bankers, attorneys, accountants, financial printing, other related
transaction costs, and exit costs. At December 31, 1998, $4.6 million of these
costs had been paid, $1.0 million were classified as current liabilities and
none were classified as long-term liabilities.
39
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE B -- BUSINESS COMBINATIONS (CONTINUED)
WAVEFRONT
In February 1998, the Company acquired all of the outstanding shares of capital
stock of WaveFront Consulting, Inc. ("WaveFront") for an initial cash payment of
$3,650,000, plus conditional payments based upon future operating income.
WaveFront is an information technology consulting firm located in Vienna,
Virginia, specializing in providing distributed computing solutions, including
client/server and internet development, principally in the telecommunications
industry. WaveFront had 30 employees and reported revenues of $2.8 million for
the year ended December 31, 1997. This acquisition was accounted for using the
purchase method of accounting. The fair value of the identifiable net assets
acquired was approximately $300,000. The remainder of the purchase price
including the conditional payments has been and will be allocated to goodwill.
GREENHALGH
In January 1998, the Company acquired all of the outstanding shares of
Greenhalgh and Company Limited for $220,000 in cash and 36,300 shares of FCG
Common Stock valued at $287,000. Greenhalgh is an information systems consulting
firm located in Macclesfield, England, which reported $1.4 million in revenue in
1997. This acquisition was accounted for using the purchase method of
accounting. The fair value of the identifiable net liabilities acquired was
approximately $900,000. The purchase price together with this acquired liability
was allocated to goodwill.
CUTTING EDGE
In April 1997, the Company completed the acquisition of the assets and certain
liabilities of Cutting Edge Computer Solutions, Inc. ("Cutting Edge") for cash.
Cutting Edge is an information services consulting firm with primary offices in
Malvern, Pennsylvania, and Alexandria, Virginia, that specializes in the design
and development of business software using client/server, relational database,
and internet and intranet technologies. Cutting Edge had 26 employees and
reported revenues of $2.2 million in calendar year 1996. This acquisition was
accounted for using the purchase method of accounting. The fair value of the
identifiable net assets acquired was approximately $400,000. The remainder of
the purchase price was allocated to goodwill.
The accounts of WaveFront, Greenhalgh and Cutting Edge have been included in the
accompanying financial statements for the period from their respective purchase
dates through December 31, 1998. Pro forma information as if these acquisitions
had occurred on January 1, 1996 have not been provided since such pro forma
results do not differ materially from those reported in the accompanying
financial statements.
40
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE C -- NOTES PAYABLE
The Company had a $6,000,000 revolving line of credit which was available
through December 1, 1998, at the bank's prevailing prime rate. The line was
subsequently renewed through May 1, 2000 and increased to $9,000,000. The
balance outstanding on this line of credit was zero and $2,000,000 at December
31, 1998 and 1997, respectively. Borrowings on the line are collaterized by all
of the Company's deposit accounts, accounts receivable and equipment. Under the
line of credit agreement, the Company is required to pay a fee equal to 0.2%
per annum on the average daily unused balance and maintain selected financial
ratios.
The Company also maintained a bank line of credit which provided for maximum
borrowings of $1,000,000, with interest on outstanding borrowings at the bank's
national commercial rate, (7.75% and 8.5% at December 31, 1998 and 1997,
respectively). This line of credit had been negotiated by ISCG, and was
terminated in December 1998 upon the consummation of the merger between FCG and
ISCG. The highest borrowings outstanding under this line were zero, zero, and
$200,000 during 1998, 1997, and 1996, respectively. There were no amounts
outstanding at December 31, 1998 or 1997.
Long-term debt is summarized as follows (in thousands):
AS OF DECEMBER 31,
------------------------
1998 1997
------ ------
Note payable to bank ....................... $ 240 $ 958
Other note payable ......................... 65 175
------ ------
305 1,133
Less current portion ....................... 67 871
------ ------
Non-current portion ........................ $ 238 $ 262
------ ------
The note payable to bank is collateralized by all deposit accounts, accounts
receivable, and equipment of the Company and by unreleased ASOP shares (see Note
I). The note bears interest at the bank's prime rate (7.75% and 8.5% at December
31, 1998 and 1997, respectively) plus 0.5%. The note is payable in monthly
installments of $4,000 plus interest with the last installment due July 1, 2003.
41
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE D -- INCOME TAXES
The provision for income taxes consists of the following (in thousands):
YEAR ENDED DECEMBER 31,
-------------------------------------
1998 1997 1996
-------- -------- --------
Current:
Federal ........................ $ 8,829 $ 2,604 $ 1,956
State .......................... 1,990 252 549
Foreign ........................ 72 140 31
-------- -------- --------
Total current .............. 10,891 2,996 2,536
Deferred:
Federal ........................ (510) 1,207 231
State .......................... (147) 285 30
-------- -------- --------
Total deferred ............. (657) 1,492 261
-------- -------- --------
Provision for income taxes .......... $ 10,234 $ 4,488 $ 2,797
-------- -------- --------
Temporary differences consist of the following (in thousands):
AS OF DECEMBER 31,
------------------
1998 1997
------- -------
Deferred tax assets:
Net operating loss ........................................... $ -- $ 72
Contributions ................................................ -- 74
Bad debts .................................................... 609 330
Supplemental executive retirement plan contributions ......... 1,510 720
Stock based compensation ..................................... -- --
Accrued liabilities .......................................... 1,752 --
Other ........................................................ 572 224
------- -------
Total current deferred tax assets ................... 4,443 1,420
Deferred tax liabilities:
Accrual to cash basis adjustment ............................. 2,727 6,260
Work in process .............................................. 6,134 --
Stock based compensation ..................................... 966 1,372
Other ........................................................ 171 --
------- -------
Total deferred tax liabilities ........................... 9,998 7,632
------- -------
Total net deferred tax liabilities .................. $ 5,555 $ 6,212
======= =======
The balance sheet classifications of deferred taxes are as follows:
Current deferred liability ................................... $ 6,318 $ 5,765
Non-current deferred asset ................................... (763) --
Non-current deferred liability ............................... -- 447
------- -------
Total net deferred tax liabilities .................. $ 5,555 $ 6,212
======= =======
42
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE D -- INCOME TAXES (CONTINUED)
As a result of the following items, the total provision for income taxes was
different from the amount computed by applying the statutory U.S. federal income
tax rate to earnings before income taxes:
YEAR ENDED DECEMBER 31,
-----------------------
1998 1997 1996
---- ---- ----
Federal income tax at statutory rate ...................... 35.0% 35.0% 35.0%
Changes due to:
State franchise tax, net of federal income tax benefit 5.9 2.1 5.8
Acquisition costs .................................... 9.2 -- --
ASOP ................................................. 1.3 23.4 1.7
Foreign losses without tax benefit ................... 1.6 -- --
Meals and entertainment .............................. 1.1 2.4 1.0
Tax exempt interest .................................. (1.9) -- --
Other ................................................ 3.2 2.9 --
---- ---- ----
55.4% 65.8% 43.5%
---- ---- ----
NOTE E -- NOTES RECEIVABLE - STOCKHOLDERS
Notes receivable from stockholders consist primarily of loans provided to
corporate officers ("officers") at the level of vice president and above for the
purchase of shares of Common Stock (see Note H). Notes received in exchange for
Common Stock have been classified as a reduction of stockholders' equity. In
addition, prior to the Company's initial public offering in February, 1997, the
Company provided such officers with notes to cover the exercise price and
associated taxes related to the exercise of stock options. Notes are
non-interest bearing and have been discounted using imputed annual interest
rates from 5.63% to 6.36%. Such notes are payable over a ten-year term. Prior to
the initial public offering, the notes were issued on a non-recourse basis.
Notes issued subsequent to the offering are 70% recourse to the borrower.
Participants are required to pay, each year, the greater of 10% of the
outstanding amounts or 50% of the after tax amount of any annual bonus received
by them to repay outstanding amounts of the notes. Stockholders' notes
receivable received in exchange for Common Stock were $10,898,000 and $6,982,000
as of December 31, 1998 and 1997, respectively. Discount for imputed interest on
these notes receivable was $2,717,000 and $1,848,000 as of December 31, 1998 and
1887, respectively. Amortization of deferred compensation resulting from
discounting the face value of non-interest bearing notes issued to the Company
by its officers for the purchase of shares of Common Stock was $349,000 and
$266,000 for the years ended December 31, 1998 and 1997, respectively.
Stockholders' notes receivable related to advances to officers for payment of
taxes associated with stock option exercises were $2,372,000 and $2,354,000 as
of December 31, 1998 and 1997, respectively. Discount for imputed interest on
these notes receivable was $569,000 and $675,000 as of December 31, 1998 and
1887, respectively. Compensation expense resulting from discounting the face
value of non-interest bearing notes issued to the Company by its officers in
connection with the Company's payment of certain tax liabilities relating to the
exercise of stock options was zero and $518,855 for the years ended December 31,
1998 and 1997, respectively.
43
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE F -- STOCK OPTIONS
A summary of stock option transactions is as follows:
OPTION WEIGHTED AVERAGE
SHARE EXERCISE PRICE
- -----------------------------------------------------------------------------------------
OUTSTANDING AT JANUARY 1, 1996 1,170,945 $ 1.58
Granted 376,763 1.62
Exercised (258,448) 0.97
Canceled (45,923) 1.96
- -----------------------------------------------------------------------------------------
OUTSTANDING AT DECEMBER 31, 1996 1,243,337 1.70
Granted 1,628,556 7.35
Exercised (897,236) 1.16
Canceled (235,263) 9.85
- -----------------------------------------------------------------------------------------
OUTSTANDING AT DECEMBER 31, 1997 1,739,394 6.07
Granted 950,538 16.12
Exercised (133,446) 2.95
Canceled (255,461) 10.16
- -----------------------------------------------------------------------------------------
OUTSTANDING AT DECEMBER 31, 1998 2,301,025 $ 9.95
- -----------------------------------------------------------------------------------------
At December 31, 1998, 1997 and 1996, 419,096, 160,358 and 117,744 options were
exercisable, respectively at weighted average exercise prices of $5.37, $2.61
and $1.63, respectively. In March 1997, the Company modified the terms of
certain non-vested stock options granted in January 1997 by decreasing the
exercise price from $17.21 to $13.96. The following table summarizes information
about stock options outstanding at December 31, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------------------- -------------------------------
WEIGHTED WEIGHTED
WEIGHTED AVERAGE AVERAGE AVERAGE
RANGE OF NUMBER REMAINING EXERCISE NUMBER EXERCISE
EXERCISE PRICE OUTSTANDING CONTRACTUAL LIFE PRICE EXERCISABLE PRICE
- ---------------------------- ---------------- ------------------ ---------------- -------------- ----------------
$ .07 to $ 4.32 293,151 6.02 Years $ 2.72 147,367 $ 2.40
4.76 580,221 8.17 Years 4.76 151,789 4.76
5.50 to 9.50 456,500 8.84 Years 7.34 75,926 6.77
11.53 to 14.94 550,810 8.18 Years 13.14 34,372 13.68
15.10 to 27.75 420,343 9.05 Years 20.81 9,642 19.62
- ----------- ---- ----------- ---------------- ------------------ ---------------- -------------- ----------------
$ .07 to $27.75 2,301,025 8.19 Years $ 9.95 419,096 $ 5.37
- ----------- ---- ----------- ---------------- ------------------ ---------------- -------------- ----------------
44
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE F -- STOCK OPTIONS (CONTINUED)
The Company applies Accounting Principles Board Opinion No. 25, ACCOUNTING FOR
STOCK ISSUED TO EMPLOYEES, and related interpretations in accounting for the
plan. Accordingly, no compensation expense has been recognized for options
granted. Had compensation expense for the Company been consistent with the
methodology prescribed under Statement of Financial Accounting Standards No.
123, ACCOUNTING FOR STOCK-BASED COMPENSATION, (SFAS 123), the Company's net
income and net income per share would have been reduced to the pro forma amounts
indicated below (in thousands, except per share data):
YEAR ENDED DECEMBER 31
------------------------------------------
1998 1997 1996
-------- -------- --------
Net Income As reported $8,251 $2,340 $3,626
Pro forma 6,498 1,583 3,615
Basic earnings per share As reported .38 .14 .26
Pro forma .30 .10 .26
Diluted earnings per share As reported .36 .13 .23
Pro forma .28 .09 .23
The fair value of the options granted under the plan in 1998, 1997 and 1996
calculated using the Black-Scholes pricing model were $6.94, $2.60, and $2.83
per share, respectively. The following assumptions were used in the
Black-Scholes pricing model: expected dividend yield 0%, risk-free interest rate
ranging from 5.5% to 7.18%, expected volatility factor of 0.5 for 1998 and zero
to 0.6 for 1997, and an expected life ranging from six to seven years. Pro forma
net income reflects only options granted on or after January 1, 1995, and
excludes the effect of a volatility assumption prior to the Company becoming
publicly traded. Therefore, the full impact of calculating compensation expense
for stock options under SFAS 123 is not reflected in the pro forma net income
amounts presented above because compensation expense is reflected over the
options' vesting period, and compensation expense for options granted prior to
January 1, 1995 is not considered.
For the year ended December 31, 1998, 1997 and 1996, compensation expense
recognized in income for stock-based employee compensation related to the grant
of options was $250,948, $278,415 and $215,000 respectively.
NOTE G -- SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN
On January 1, 1994 the Company adopted the Supplemental Executive Retirement
Plan (the "SERP"). The SERP was amended on January 1, 1996 and on July 1, 1998.
The SERP is administered by the Board of Directors or a committee appointed by
the Board of Directors.
Participants in the SERP are those officers who are eligible to participate in
the 1994 Plan and who are selected by the Board of Directors or a committee
appointed by the Board of Directors to participate. The Board of Directors or a
committee appointed by the Board of Directors may also designate other officers
for participation in the compensation reduction portion of the SERP.
Participation is conditioned on the submission of a completed enrollment form.
SERP participation terminates when a participant ceases to be a stockholder of
the Company, provided that a former stockholder who continues as an officer may
continue to participate in the compensation reduction portion of the SERP.
45
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE G -- SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN (CONTINUED)
Participants may make fully vested compensation reduction contributions to the
SERP, subject to a maximum deferral of 10% of annual base salary. The Company
may make a voluntary "FCG contribution" for any year in an amount determined by
the Board to the account of SERP participants. FCG contributions vest 10% for
each year of service (with up to five years service credit for participants who
were vice presidents on January 1, 1994), provided that FCG contributions fully
vest upon a change in control of the Company or upon a participant's death,
disability or attainment of age 65. Company contributions to the SERP were
$726,000, $493,000 and $372,000 for the years ended December 31, 1998, 1997, and
1996, respectively.
The contributions to the SERP are invested by the Company in Variable Life
Insurance Contracts. Management believes that the participants' account balance,
cash surrender value of life insurance and death benefits will be sufficient to
satisfy the Company's obligations under the SERP.
NOTE H -- STOCK INCENTIVE AGREEMENTS
1994 RESTRICTED STOCK PLAN AND AGREEMENTS
On December 15, 1997, the Board of Directors adopted an amendment to the 1994
Restricted Stock Plan (as amended the "1994 Plan") and Restricted Stock
Agreement ("RSA"). The stockholders approved the 1994 Plan and RSAs on January
15, 1998. The 1994 Plan provides a mechanism for the purchase and sale of Common
Stock by its vice presidents. The 1994 Plan is administered by the Company's
Board of Directors or a committee appointed by the Board.
Under the 1994 Plan, the Company has entered into RSAs with each of its
officers. The 1994 Plan and RSAs provide that each person, upon becoming an
officer of the Company, must purchase and hold a specific minimum number of
shares of Common Stock. Officers at Levels I and II are required to purchase and
hold that number of shares equal to one times the officer's base salary divided
by the then-current fair value of the Common Stock. Officers at Levels III and
IV are required to purchase and hold that number of shares equal to two times
the officer's base salary divided by the then-current fair value of the Common
Stock, which, prior to the completion of the Company's initial public offering
in February, 1998, was determined by reference to a report prepared for the
Company by an independent valuation firm.
For RSAs executed prior to the IPO, shares purchased under such RSAs are subject
to a 10-year vesting period beginning the date upon which an individual becomes
an officer and vest annually upon the completion of each year of service.
Automatic acceleration of vesting occurs upon death or permanent disability of
an officer and upon certain changes in ownership of the Company. Partial
acceleration of vesting may also occur once the officer attains the age of 59.
Shares purchased after the IPO date are fully vested upon purchase.
Under the terms of the pre-IPO RSAs, the Company retains a repurchase right with
respect to unvested shares, unless such termination is due to death, disability
or changes in control of the Company. Pursuant to this right, the Company may
repurchase unvested shares at the original issuance price plus a growth factor.
The growth factor is equal to the average interest rate compounded quarterly
which the Company pays to a commercial lending institution in a calendar quarter
(the "Growth Factor"). In the event the Company has no borrowings for a
particular quarter, then the growth factor shall be the prime rate on the first
day of the quarter, as announced in the Wall Street Journal or if the Wall
Street Journal discontinues
46
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE H -- STOCK INCENTIVE AGREEMENTS (CONTINUED)
such announcements, then it shall be the prime rate
as announced by Bank of America. Shares acquired under RSAs are nontransferable,
with the exception of transfers for certain estate planning and charitable gift
purposes. In addition, the RSAs provide that, under certain circumstances and
upon attaining a certain age, an officer may sell a portion, but not all, of his
or her shares to other officers or to the Company. The Company may also
repurchase vested shares from a departing officer if he or she competes with the
Company and/or profits from the sale of Common Stock within six months of such
competition. An officer may also sell unencumbered shares of Common Stock on the
public market, subject to continuing to satisfy the minimum shareholding
requirements. Pre-IPO officers paid the purchase price of the shares by means of
non-recourse and non-interest bearing promissory notes.
For RSAs executed after IPO, the shares are paid for with a non-interest bearing
promissory note which has recourse against the officer's personal assets for 70%
of its outstanding balance. The shares are fully vested upon their purchase, but
are held by the Company as collateral against the associated loan.
All RSAs also contain non-competition and non-solicitation provisions which
apply generally to the officer's employment with the Company and which continue
to bind the officer even after repurchase of all shares by the Company;
provided, however, that such provisions may be superseded by an employment
agreement entered into between the Company and the officer.
The Company is also the beneficiary of a split-dollar life insurance policy on
its largest stockholder that is intended to partially fund the repurchase of
such stockholder's stock upon death. The Company also maintains long-term
disability insurance policies on such stockholder to help fund the purchase of
stock upon permanent disability of the stockholder.
NON-QUALIFIED STOCK OPTION AGREEMENT
Effective January 1, 1996, and restated January 1, 1997, the Company executed
and adopted a non-qualified stock option agreement for certain officers. The
principal terms of the agreement provided that for each share of stock purchased
at fair market value, the stockholder was granted one exercisable stock option
which allowed the stockholder to purchase additional shares at a price below the
fair market value of the Common Stock. During 1997 and 1996, 215,176 and 366,168
shares, respectively, were granted under the provisions of the agreement and
stockholders exercised options on 364,728 and 127,416 shares of Common Stock,
respectively. Deferred compensation of $512,000 and $737,000 was recorded for
the years ended December 31, 1997 and 1996, respectively, related to the
granting of options under this agreement. Compensation expense related to the
amortization of the deferred compensation on these options approximated
$125,000, $145,000 and $79,000 for the years ended December 31, 1998, 1997 and
1996, respectively.
Effective December 19, 1995, the Company executed and adopted a non-qualified
stock option agreement for certain vice presidents. The principal terms of the
agreement provided that for each share of stock purchased at fair market value
of the Common Stock, the stockholder was granted two exercisable stock options
which allow the stockholder to purchase additional shares at approximately 20%
of the fair market value of the Common Stock. During 1995, 1,279,440 stock
options were granted under the provisions of the agreement and vice presidents
exercised options for 733,008 shares of Common Stock. Compensation expense
related to these options approximated $126,000, and $134,000 and $136,000 for
47
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE H -- STOCK INCENTIVE AGREEMENTS (CONTINUED)
the years ended December 31, 1998, 1997 and 1996, respectively. At December 31,
1997, all below market stock options had been exercised and no below market
options have been issued since.
OTHER EQUITY PLANS
On August 22, 1997, the Board adopted an equity incentive plan and non-employee
directors' stock option plan, which was approved by the shareholders on January
15, 1998. The principal terms of the equity incentive plan allow the Company to
grant either stock options, stock bonuses or stock appreciation rights to
acquire up to 1,600,000 shares of Common Stock. The stock awards vest over a
ten-year term from the date of grant. Under the plan, the Company granted
employees 532,217 and 945,400 options to purchase Common Stock at an exercise
price equal to the market price of Common Stock on the date of grant in the
years ended December 1998 and 1997, respectively. As of December 31, 1998,
231,548 of these options were exercisable. The Company had no stock appreciation
rights issued or outstanding for the year ended December 31, 1998.
The non-employee directors' stock option plan allows the Company to grant
options under such plan for up to 200,000 shares of Common Stock. Under the plan
in the years ended December 1998 and 1997, respectively, the Company granted
20,000 and 84,000 options to purchase Common Stock at an exercise price equal to
the market price of the Common Stock on date of grant. These options vest over a
ten-year term from date of grant.
Under the Company's amended 1989 Stock Option Plan (a plan carried over from
ISCG subsequent to the merger), the Company may grant incentive stock options to
employees and nonqualified stock options to employees and directors. All options
are granted at not less than fair market value at the date of grant and
generally expire ten years from the date of grant. Options granted prior to July
25, 1996 generally vest at a rate of 20% per annum beginning on the second
anniversary of the grant date. Options granted on or after July 25, 1996
generally vest ratably over a five-year period. In 1997, ISCG's Board of
Directors amended this plan with subsequent stockholder approval, to increase
the number of shares of Common Stock authorized for issuance under the plan from
962,500 to 1,270,500 shares. Under the plan, the Company granted employees
191,091, 383,980 and 10,595 options to purchase Common Stock at an exercise
price equal to the market price of the Common Stock on the date of grant in the
years ended December 31, 1998, 1997 and 1996, respectively. As of December 31,
1998, 1997 and 1996, 187,548, 160,358 and 117,744 of the options were
exercisable, respectively.
NOTE I -- ASSOCIATE 401(K) AND STOCK OWNERSHIP PLAN
Under the ASOP, participants may elect to reduce their current compensation by
up to the lesser of 15% of such compensation or the statutorily prescribed
annual limit ($10,000 in 1998, and $9,500 in 1997) and have the amount of such
reduction contributed to the ASOP. In addition, the Company may make
contributions to the ASOP on behalf of participants. Company contributions may
be matching contributions allocated based on each participant's compensation
reduction contributions, discretionary profit sharing contributions allocated
based on each participant's compensation, or "first share contributions"
allocated to some or all participants on a per capita basis.
48
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE I -- ASSOCIATE 401(K) AND STOCK OWNERSHIP PLAN (CONTINUED)
The ASOP is intended to qualify under Section 401 of the Internal Revenue Code
of 1986, as amended, so that contributions by employees or by the Company to the
ASOP, and income earned thereon are not taxable until withdrawn and so that
contributions by the Company, if any, will be deductible by the Company when
made. Participants become vested in company contributions under two graded
vesting schedules, so that matching and first share contributions are fully
vested after five years of service and profit sharing contributions are fully
vested after seven years of service. The ASOP is a leveraged employee stock
ownership plan. The ASOP borrowed $4.0 million from a third-party financial
institution (the "ASOP loan") to purchase 1,429,848 shares of Common Stock in
1995. The shares of Common Stock so purchased were placed in a suspense account
under the ASOP from which they are released and allocated to participants'
accounts as the ASOP loan is repaid. Any or all company contributions may be
used to repay the ASOP loan.
The Company reports in its Statement of Financial Position the debt of the ASOP
and unearned ASOP shares, which is the original cost basis of the ASOP shares
pledged as collateral for the debt. As shares are committed to be released, the
Company credits unearned ASOP shares based on the cost of the shares to the
ASOP. The Company records compensation expense based on the fair market value of
the shares committed to be released. The difference between the fair value of
shares committed to be released and the cost of those shares to the ASOP is
either charged or credited to stockholders' equity accounts, as applicable.
Compensation expense for the 401(k) match and the ASOP was approximately $0.8
million, $2.4 million, and $1.8 million for the years ended December 31, 1998,
1997 and 1996, respectively. The Company's practice is to net unvested shares
forfeited by terminated employees against the current year 401(k) match. Had the
Company not had these forfeitures, the compensation expense would have been
approximately $1.9 million in 1998.
In 1996, the Company made matching contributions and first share contributions
to the ASOP sufficient to provide a 50% matching contribution and a first share
contribution of 200 shares of company stock for each participant who was
employed by the Company on January 1, 1996 or became employed by the Company
thereafter. In consideration for employees allowing the Company to make a plan
modification to the current ASOP plan, the Company committed to release 1,000
shares of Common Stock to each participant in the ASOP as of November 26, 1997
(568,000 shares in the aggregate). This commitment resulted in a charge to
compensation expense of approximately $4.2 million in the fourth quarter of
1997. Such amount is included in compensation expenses related to stock
issuances in the accompanying financial statements. The committed shares are
released to participant accounts to the extent that shares distributed to an
individual do not exceed certain Internal Revenue Service section limitations.
The ASOP shares were as follows:
YEAR ENDED DECEMBER 31,
------------------------------------
1998 1997 1996
---------- ---------- ----------
Allocated shares ........................ $1,309,223 $1,308,104 $ 372,780
Unreleased shares ....................... 248,393 281,440 1,152,764
---------- ---------- ----------
Total ASOP shares .................. 1,557,616 1,589,544 1,525,544
Fair market value of unreleased shares .. $5,092,000 $2,520,000 $7,258,000
49
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE I -- ASSOCIATE 401(K) AND STOCK OWNERSHIP PLAN (CONTINUED)
Prior to the IPO, upon the cessation of employment of an employee, the Company
paid the employee the fair market value of his or her vested shares of Common
Stock previously allocated to such employee under the ASOP. The fair market
value of Common Stock was determined by an independent valuation firm. Since the
ultimate funding of this obligation rested with the Company, the Company had
recorded the potential future obligation to repurchase such securities outside
of permanent equity (see also Note H). Subsequent to the Company's closing of
the IPO, upon the cessation of employment of an employee, the Company releases
his or her vested ASOP shares to the employee. Since such released shares of
Common Stock held by the ASOP are tradable on an established exchange, recording
of a potential future repurchase obligation outside of permanent equity ceased
in February, 1998.
NOTE J -- CONCENTRATION OF CREDIT RISK
The Company maintains its cash balances in a financial institution located in
Long Beach, California. These balances are insured by the Federal Deposit
Insurance Corporation up to $100,000. At December 31, 1998, the Company had
balances in excess of the insured amount of approximately $5.7 million. The
Company has not experienced any losses in such account and believes it is not
exposed to any significant credit risk on its cash and cash equivalents.
NOTE K -- COMMITMENTS AND CONTINGENCIES
The Company leases its office facilities, certain office space and living
accommodations for consultants on short-term projects under operating leases
which expire at various dates through 2002. At December 31, 1998, the Company
was obligated under non-cancelable operating leases with future minimum rentals
as follows (in thousands):
YEAR ENDING DECEMBER 31,
1999 ......................... $ 3,930
2000 ......................... 3,539
2001 ......................... 3,267
2002 ......................... 3,005
2003 ......................... 2,278
2004 and Beyond ......................... 1,411
-------
$17,430
-------
Rent expense aggregated $4,276,000, $3,644,000 and $2,347,000 for the years
ended December 31, 1998, 1997 and 1996, respectively.
The Company is involved in various legal actions arising in the normal course of
business. Management is of the opinion that the outcome of these matters will
not have a material adverse effect on the Company's financial position or
results of operation.
50
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L -- INVESTMENTS
Available-for-sale securities are measured at fair value, with net unrealized
gains and losses reported in equity as a component of other comprehensive
income. The net unrealized holding gain increased $71,000 in 1998. The amortized
cost, unrealized gains and losses, and fair values of the Company's
available-for-sale securities held at December 31, 1998 are summarized as
follows:
GROSS GROSS
UNREALIZED UNREALIZED ESTIMATED
AMORTIZED COST GAINS LOSSES FAIR VALUE
-------------- ----- ------ ----------
Available-for-Sale Securities
Municipal Bonds........................ $32,690,000 $122,000 -- $32,812,000
The following table lists the maturities of debt securities held at December 31,
1998:
AMORTIZED COST ESTIMATED FAIR VALUE
Due in one year or less..................... $27,088,000 $27,168,000
Due after one year through five years....... $ 5,602,000 $ 5,644,000
NOTE M -- DISCLOSURE OF SEGMENT INFORMATION
The Company has the following three reportable segments: North America
consulting, North America integration, and international services. The
consulting services consist of strategic planning, operations effectiveness,
procurement and contracting, and general consulting. The integration services
include implementation of packaged vendor software, design and development of
comprehensive system architectures, infrastructures, interfaces, databases,
applications and networks to address the need for information integration and
dissemination throughout a client's organization. International primarily
represents services provided in the United Kingdom and parts of continental
Europe and includes a blend of consulting and integration services.
The accounting policies used to develop segment information correspond to those
described in the summary of significant accounting policies. The Company manages
segment reporting at a gross margin level. Selling, general and administrative
expenses (including corporate functions, occupancy related costs, depreciation,
professional development, recruiting, and marketing), and fixed assets
(primarily computer equipment, furniture, and leasehold improvements) are
managed at the corporate level separately from the segments. The Company's
segments are managed on an integrated basis in order to serve clients by
assembling multi-disciplinary teams, which provide comprehensive services across
its principal services.
51
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE M -- DISCLOSURE OF SEGMENT INFORMATION (CONTINUED)
The following information about the segments is for the year ended December 31,
1998:
NORTH AMERICA NORTH AMERICA
CONSULTING INTEGRATION EUROPE ALL OTHER TOTALS
Net revenues........................... $50,079 $139,105 $6,544 $562 $196,290
Cost of services....................... 28,702 76,196 5,748 190 110,836
------- -------- ------ ---- --------
Gross profit........................... $21,377 $ 62,909 $ 796 $372 85,454
Selling, general & administrative................................................................... 63,290
Merger related expenses............................................................................. 6,041
--------
Income from operations.............................................................................. $ 16,123
--------
Comparable segment information for the years ended December 31, 1997 and 1996
was not practicable to include due to changes in the organization structure.
NOTE N -- NET INCOME PER SHARE
The following represents a reconciliation of basic and diluted net income per
share (amounts rounded to thousands except per share data):
YEAR ENDED DECEMBER 31,
---------------------------
1998 1997 1996
------- ------- -------
Net income ..................................... $ 8,251 $ 2,339 $ 3,626
Basic shares ................................... 21,567 16,234 14,142
Effect of dilutive options and warrants 1,443 1,237 1,363
------- ------- -------
Diluted shares ................................. 23,010 17,471 15,505
------- ------- -------
------- ------- -------
Net income per common share:
Basic ................................. $ 0.38 $ 0.14 $ 0.26
Diluted ............................... $ 0.36 $ 0.13 $ 0.23
52
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE O -- UNAUDITED QUARTERLY FINANCIAL DATA
(In Thousands, Except Per Share Data)
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
1998
Net revenue .................................... $ 43,569 $ 47,792 $ 51,082 $ 53,847
Cost of services ............................... 25,489 26,589 28,550 30,208
-------- -------- -------- --------
Gross profit ........................... 18,080 21,203 22,532 23,639
General and administrative expenses ............ 13,811 15,373 16,433 17,673
Merger related cost ............................ -- -- 486 5,555
-------- -------- -------- --------
Income from operations ................. 4,269 5,830 5,613 411
Interest income (expense), net ................. 423 545 593 746
Other income, net .............................. 27 8 13 7
-------- -------- -------- --------
Income before income taxes ............. 4,719 6,383 6,219 1,164
Provision for income taxes ..................... 1,927 3,048 2,848 2,411
-------- -------- -------- --------
Net income (loss) ...................... $ 2,792 $ 3,335 $ 3,371 $ (1,247)
-------- -------- -------- --------
Diluted net income (loss) per share ............ $ 0.13 $ 0.14 $ 0.14 $ (0.06)
-------- -------- -------- --------
1997
Net revenue .................................... $ 29,635 $ 32,474 $ 36,544 $ 38,468
Cost of services ............................... 17,567 18,903 21,189 22,532
-------- -------- -------- --------
Gross profit ........................... 12,068 13,571 15,355 15,936
General and administrative expenses ............ 9,714 10,561 11,970 12,309
Compensation expenses related to stock issuances 523 523 815 4,199
-------- -------- -------- --------
Income (loss) from operations .......... 1,831 2,487 2,570 (572)
Interest income (expense), net ................. 123 77 89 103
Other income, net .............................. 91 10 9 9
-------- -------- -------- --------
Income (loss) before income taxes ...... 2,045 2,574 2,668 (460)
Provision for income taxes ..................... 959 1,207 1,226 1,096
-------- -------- -------- --------
Net income (loss) ...................... $ 1,086 $ 1,367 $ 1,442 $ (1,556)
======== ======== ======== ========
Diluted net income (loss) per share ............ $ 0.06 $ 0.08 $ 0.08 $ (0.09)
======== ======== ======== ========
53
FIRST CONSULTING GROUP, INC. AND SUBSIDIARIES
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
First Consulting Group, Inc.
We have audited the accompanying consolidated balance sheets of First Consulting
Group, Inc. and its subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of operations, comprehensive income,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1998. In connection with our audits of the consolidated
financial statements, we have also audited the financial statement schedule as
listed in the accompanying index. These financial statements and schedule are
the responsibility of the Company's management. Our responsibility is to express
an opinion on the financial statements based on our audits. The consolidated
financial statements give retroactive effect to the 1998 merger of First
Consulting Group, Inc. and Integrated Systems Consulting Group, Inc., which has
been accounted for as a pooling-of-interests as described in Note B to the
consolidated financial statements. We did not audit the consolidated financial
statements of Integrated Systems Consulting Group, Inc. for the years ended
December 31, 1997 and 1996, which were combined with First Consulting Group,
Inc.'s statements for the years ended December 31, 1997 and 1996, and reflect
net revenues of $43,178,000 and $30,607,000, and net earnings of $3,513,000 and
$3,004,000, respectively. Those financial statements were audited by other
auditors whose report has been furnished to us, and our opinion, insofar as it
relates to the amounts included for Integrated Systems Consulting Group, Inc.,
is based solely on the report of such other auditors.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits and the reports of the other auditors provide a
reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of First Consulting
Group, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
consolidated results of their operations and their consolidated cash flows for
each of the three years in the period ended December 31, 1998, in conformity
with generally accepted accounting principles. Also, in our opinion, the related
financial statement schedule when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly in all
material respects, the information set forth therein.
/s/ GRANT THORNTON LLP
Irvine, California
February 8, 1999
54
INTEGRATED SYSTEMS CONSULTING GROUP, INC
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Integrated Systems Consulting Group, Inc.
We have audited the consolidated balance sheets of Integrated Systems
Consulting Group, Inc. and subsidiaries as of December 31, 1997 and 1996, and
the related consolidated statements of operations, stockholders' equity, and
cash flows for each of the years in the three-year period ended December 31,
1997 (not separately presented herein). In connection with our audits of the
consolidated financial statements, we have also audited the related financial
statement schedule (not separately presented herein). These consolidated
financial statements and financial statement schedule are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements and financial statement schedule based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of
Integrated Systems Consulting Group, Inc. and subsidiaries as of December 31,
1997 and 1996, and the results of their operations and their cash flows for
each of the years in the three-year period ended December 31, 1997, in
conformity with generally accepted accounting principles. Also, in our
opinion, the related financial statement schedule, when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set forth therein.
/s/ KPMG LLP
Philadelphia, Pennsylvania
January 23, 1998, except as to note 14, which is as of February 27, 1998
55
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTs
BALANCE AT PROVISION ACCOUNTS BALANCE AT END
FOR THE YEAR BEGINNING OF CHARGED TO WRITTEN OF
ENDED DECEMBER 31 DESCRIPTION PERIOD INCOME OFF PERIOD
- ----------------- ------------------------------ ---------------- ---------------- ----------------- ----------------
1998 Accounts receivable allowance 812 961 (324) 1,449
1997 Accounts receivable allowance 279 750 (217) 812
1996 Accounts receivable allowance 200 156 (77) 279
56
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
BY: /s/ LUTHER J. NUSSBAUM
-----------------------------------
Luther J. Nussbaum,
Chief Executive Officer
Date: March 30, 1999
Know all persons by these presents, that each of the persons whose signature
appears below hereby constitutes and appoints Luther J. Nussbaum and Thomas A.
Reep, each of them acting individually, as his attorney-in-fact, each with the
full power of substitution, for him in any and all capacities, to sign any and
all amendments to this Annual Report on Form 10-K, and to file the same, with
all exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact, and
each of them, full power and authority to do and perform each and every act and
thing requisite and necessary to be done in and about the premises as fully to
all intents and purposes as he might or could do in person, hereby ratifying and
confirming our signatures as they may be signed by our said attorney-in-fact and
any and all amendments to this Annual Report on Form 10-K.
Pursuant to the requirement of the Securities Exchange Act of 1934, this Report
has been signed by the following persons on behalf of the Registrant in the
capacities and on the dates indicated.
SIGNATURE TITLE DATE
- ---------------------------- ------------------------------------------- --------------
/s/ LUTHER J. NUSSBAUM Chief Executive Officer and Director March 30, 1999
- ---------------------------- (Principal Executive Officer)
Luther J. Nussbaum
/s/ JAMES A. REEP Chairman and Director March 30, 1999
- ----------------------------
James A. Reep
/s/ Thomas A. Reep Chief Financial Officer and Vice President March 30, 1999
- ---------------------------- (Principal Financial Officer)
Thomas A. Reep
/s/ PHILIP H. OCKELMANN Controller March 30, 1999
- ---------------------------- (Principal Accounting Officer)
Philip H. Ockelmann
/s/ FRANK BALDINO, JR. Director March 30, 1999
- ----------------------------
Frank Baldino, Jr.
/s/ DONALD R. CALDWELL Director March 30, 1999
- ----------------------------
Donald R. Caldwell
SIGNATURE TITLE DATE
- ---------------------------- ------------------------------------------- --------------
/s/ STEVEN HECK Director March 30, 1999
- ----------------------------
Steven Heck
/s/ STEVEN LAZARUS Director March 30, 1999
- ----------------------------
Steven Lazarus
/s/ DAVID S. LIPSON Director March 30, 1999
- ----------------------------
David S. Lipson
/s/ STANLEY R. NELSON Director March 30, 1999
- ----------------------------
Stanley R. Nelson
/s/ STEPHEN E. OLSON Director March 30, 1999
- ----------------------------
Stephen E. Olson
/s/ SCOTT S. PARKER Director March 30, 1999
- ----------------------------
Scott S. Parker
/s/ JACK O. VANCE Director March 30, 1999
- ----------------------------
Jack O. Vance
INDEX TO EXHIBITS
EXHIBIT
NUMBER EXHIBIT
2.1.1 Agreement and Plan of Merger and Reorganization dated as of
September 9, 1998, by and among the Registrant, Foxtrot Acquisition
Sub, Inc., a Delaware corporation and a wholly-owned subsidiary of
the Registrant, and Integrated Systems Consulting Group, Inc., a
Pennsylvania corporation ("ISCG") (incorporated by reference to
Exhibit 99.1 of the Registrant's Current Report on Form 8-K filed on
September 22, 1998. (the "First Form 8-K")).
2.1.2 First Amendment to Agreement and Plan of Merger and Reorganization
dated as of November 11, 1998 (incorporated by reference to Exhibit
99.1 of the Registrant's Current Report on Form 8-K filed on
November 12, 1998) (See Appendix A-1 to the Report).
3.1 Certificate of Incorporation of the Registrant (incorporated by
reference to Exhibit 3.1 to the Registrant's Form S-1 Registration
Statement (No. 333-41121) originally filed on November 26, 1997 (the
"Form S-1")).
3.2 Bylaws of the Registrant (incorporated by reference to Exhibit 3.3
to the Registrant's Form S-1).
4.1 Specimen Common Stock certificate (incorporated by reference to
Exhibit 4.1 to the Registrant's Form S-1).
10.1 1997 Equity Incentive Plan Certificate (incorporated by reference to
Exhibit 10.1 to the Registrant's Form S-1).
10.1.1 Form of Incentive Stock Option between the Registrant and its
employees, directors, and consultants (incorporated by reference to
Exhibit 10.1.1 to the Registrant's Form S-1).
10.1.2 Form of Non-Statutory Stock Option between the Registrant and its
employees, directors, and consultants (incorporated by reference to
Exhibit 10.1.2 to the Registrant's Form S-1).
10.1.3 Form of Non-Statutory Stock Option (United Kingdom) between the
Registrant and its United Kingdom resident employees, directors, and
consultants (incorporated by reference to Exhibit 10.1.3 to the
Registrant's Form S-1).
10.1.4 Form of 1997 Equity Incentive Plan Notice of Exercise between the
Registrant and its employees, directors, and consultants
(incorporated by reference to Exhibit 10.1.4 to the Registrant's
Form S-1).
10.2 1997 Non-Employee Directors' Stock Option Plan (incorporated by
reference to Exhibit 10.2 to the Registrant's Form S-1).
10.2.1 Form of Non-Statutory Stock Option (Initial Option-Continuing
Non-Employee Directors) between the Registrant its continuing
non-employee directors (incorporated by reference to Exhibit 10.2.1
to the Registrant's Form S-1).
10.2.2 Form of Non-Statutory Stock Option (Initial Option-New Non-Employee
Directors) between the Registrant and its non-employee directors
(incorporated by reference to Exhibit 10.2.2 to the Registrant's
Form S-1).
10.2.3 Form of Non-Statutory Stock Option (Annual Option) between the
Registrant and its non-employee directors (incorporated by reference
to Exhibit 10.2.3 to the Registrant's Form S-1).
10.2.4 Form of 1997 Non-Employee Directors' Stock Option Plan Notice of
Exercise between the Registrant and its non-employee directors
(incorporated by reference to Exhibit 10.2.4 to the Registrant's
Form S-1).
EXHIBIT
NUMBER EXHIBIT
10.3 1994 Restricted Stock Plan, as amended (incorporated by reference to
Exhibit 10.3 to the Registrant's Form S-1).
10.3.1 Form of Amended and Restated Restricted Stock Agreement between the
Registrant and its executive officers (incorporated by reference to
Exhibit 10.3.1 to the Registrant's Form S-1).
10.3.2 Form of Loan and Pledge Agreement between the Registrant and its
vice presidents (incorporated by reference to Exhibit 10.3.2 to the
Registrant's Form S-1).
10.3.3 Form of Secured Promissory Note (Non-Recourse) between the
Registrant and its vice presidents (incorporated by reference to
Exhibit 10.3.3 to the Registrant's Form S-1).
10.4 Second Amended and Restated Associate 401(k) and Stock Ownership
Plan (incorporated by reference to Exhibit 10.4 to the Registrant's
Form S-1).
10.5 First Amendment to the Second Amended and Restated Associate 401(k)
and Stock Ownership Plan (incorporated by reference to Exhibit 10.5
to the Registrant's Form S-1).
10.6 1997 Non-Employee Director Restricted Stock Plan (incorporated by
reference to Exhibit 10.6 to the Registrant's Form S-1).
10.6.1 Form of Restricted Stock Agreement between the Registrant and its
non-employee directors (incorporated by reference to Exhibit 10.6.1
to the Registrant's Form S-1).
10.7 Supplemental Executive Retirement Plan (incorporated by reference to
Exhibit 10.7 to the Registrant's Form S-1).
10.8 Form of Indemnity Agreement between the Registrant and its directors
and executive officers (incorporated by reference to Exhibit 10.8 to
the Registrant's Form S-1).
10.9 Lease, dated as of October 3, 1996, between the Registrant and
Landmark Square Associates, L.P. for the Registrant's principal
executive offices in Long Beach, CA (incorporated by reference to
Exhibit 10.9 to the Registrant's Form S-1).
10.10 Credit Agreement between the Registrant and Wells Fargo Bank, dated
December 18, 1997 (incorporated by reference to Exhibit 10.10 to the
Registrant's Form S-1).
11.1 Statement of Computation of Earnings (Loss) per Share for FCG
(contained in "Notes to Consolidated Financial Statements - Note N -
Net Income Per Share" of this Report).
21.1 Subsidiaries of the Registrant.
23.1 Consent of Grant Thornton LLP.
23.2 Consent of KPMG LLP.
24.1 Power of Attorney (contained on the signature page of this Report).
27.1 Financial Data Schedule