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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
|X| Annual Report Pursuant to Section 13 or 15(d) of The Securities Exchange
Act of 1934
For the Fiscal Year Ended December 31, 2004
|_| Transition Report Pursuant to Section 13 or 15(d) of The Securities
Exchange Act of 1934
Commission File No. 000-30271
PARADIGM HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Wyoming 83-0211506
(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)
2600 Tower Oaks Blvd. Suite 500, Rockville, Maryland 20852
(Address of principal executive offices, zip code)
Registrant's telephone number, including area code: (301) 468-1200
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 par value
(Title of Each 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 Security Exchange Act of 1934 during
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 the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act) Yes [ ] No [X]
The aggregate market value of the voting stock held by non-affiliates was
approximately $7,002,932 based upon the closing price on March 28, 2005.
Number of shares of Common Stock outstanding as of March 29, 2005 was:
20,003,368 shares.
Documents incorporated by Reference:
Part III - None.
FORWARD-LOOKING STATEMENTS
This Form 10-K includes and incorporates by reference forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995.
Forward-looking statements relate to future events or our future financial
performance. These statements involve known and unknown risks, uncertainties and
other factors that may cause our or our industry's actual results, levels of
activity, performance or achievements to be materially different from any
results, levels of activity, performance or achievements expressed or implied by
these forward-looking statements.
These forward-looking statements are identified by their use of terms and
phrases such as "anticipate," "believe," "could," "estimate," "expect,"
"intend," "may," "plan," "predict," "project," "will" and similar terms and
phrases, and may also include references to assumptions. These statements are
contained in the sections entitled "Management's Discussion and Analysis of
Financial Condition and Results of Operations," "Business" and other sections of
this Form 10-K.
Such forward-looking statements include, but are not limited to:
o funded backlog;
o estimated remaining contract value;
o our expectations regarding the U.S. federal government's procurement budgets
and reliance on outsourcing of services; and
o our financial condition and liquidity, as well as future cash flows and
earnings.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor any other person
assumes responsibility for the accuracy and completeness of these statements.
These statements are only predictions. Actual events or results may differ
materially. In evaluating these statements, you should specifically consider
various factors, including the following:
o changes in U.S. federal government procurement laws, regulations, policies and
budgets;
o the number and type of contracts and task orders awarded to us;
o the integration of acquisitions without disruption to our other business
activities;
o changes in general economic and business conditions;
o technological changes;
o the ability to attract and retain qualified personnel;
o competition;
o our ability to retain our contracts during any rebidding process; and
o the other factors outlined under "Risk Factors."
If one or more of these risks or uncertainties materialize, or if underlying
assumptions prove incorrect, actual results may vary materially from those
expected, estimated or projected. We do not undertake to update our
forward-looking statements or risk factors to reflect future events or
circumstances.
RISK FACTORS
Risks Related to Our Business:
We may need to raise additional capital to finance operations
We will need to raise additional capital to fund our anticipated operating
expenses and future expansion. Among other things, external financing may be
required to cover our operating costs. If we do not maintain profitable
operations, it is unlikely that we will be able to secure additional financing
from external sources. As of January 31, 2005, we estimate that we will require
$3 million to fund our anticipated operating expenses for the next twelve
months. The sale of our common stock to raise capital may cause dilution to our
existing shareholders. Any of these events would be materially harmful to our
business and may result in a lower stock price. Our inability to obtain adequate
financing may result in the need to curtail business operations and you could
lose your entire investment. Our financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
Our common stock may be affected by limited trading volume and may fluctuate
significantly
Our common stock is traded on the Over-the-Counter Bulletin Board. Prior to this
offering, there has been a limited public market for our common stock and there
can be no assurance that an active trading market for our common stock will
develop.
i
As a result, this could adversely affect our shareholders' ability to sell our
common stock in short time periods, or possibly at all. Our common stock is
thinly traded compared to larger, more widely known companies in the information
technology services industry. Thinly traded common stock can be more volatile
than common stock traded in an active public market. The average daily trading
volume of our common stock in January 2005 was 1000 shares per day. Our common
stock has experienced, and is likely to experience in the future, significant
price and volume fluctuations, which could adversely affect the market price of
our common stock without regard to our operating performance. In addition, we
believe that factors such as quarterly fluctuations in our financial results and
changes in the overall economy or the condition of the financial markets could
cause the price of our common stock to fluctuate substantially.
All of our revenues would be substantially threatened if our relationships with
agencies of the federal government were harmed
Our largest clients are agencies of the federal government. If the federal
government in general, or any significant government agency, uses less of our
services or terminates its relationship with us, our revenues could decline
substantially. We could be forced to curtail or cease our business operations.
During the twelve months ending December 31 2004, contracts with the federal
government and contracts with prime contractors of the federal government
accounted for approximately 99% of our revenues of which, 55% of revenue was
U.S. Small Business Administration (SBA) 8(a) business. During that same period,
our five largest clients, all agencies of the federal government, generated
approximately 93% of our revenues. We believe that federal government contracts
are likely to continue to account for a significant portion of our revenues for
the foreseeable future. The volume of work that we perform for a specific
client, however, is likely to vary from year to year, and a significant client
in one year may not use our services as extensively, or at all, in a subsequent
year.
Our federal government contracts may be terminated by the government at any time
and may contain other provisions permitting the government not to continue with
contract performance, and, if lost contracts are not replaced, our operating
results may differ materially from those anticipated
We derive substantially all of our revenue from federal government contracts
that typically span one or more base years and one or more option years. The
option periods typically cover more than half of the contract's potential
duration. Federal government agencies generally have the right not to exercise
these option periods. In addition, our contracts typically also contain
provisions permitting a government client to terminate the contract for its
convenience. A decision not to exercise option periods or to terminate contracts
could result in significant revenue shortfalls from those anticipated.
Failing to maintain strong relationships with prime contractors could result in
a decline in our revenues
We derived approximately 5% of our revenues during the twelve months ended
December 31, 2004 through our subcontractor relationships with prime
contractors, which, in turn, hold the prime contract with end-clients. We
project over the next few years, the percentage of subcontractor revenue will
increase to 20%. If any of these prime contractors eliminate or reduce their
engagements with us, or have their engagements eliminated or reduced by their
end-clients, we will lose this source of revenues, which, if not replaced, could
force us to curtail our business operations.
We must recruit and retain qualified professionals to succeed in our labor
intensive business
Our future success depends in large part on our ability to recruit and retain
qualified professionals skilled in complex information technology services and
solutions. Personnel such as Java Developers and other hard-to-find information
technology professionals are in great demand and are likely to remain a limited
resource in the foreseeable future. Competition for qualified professionals is
intense. Any inability to recruit and retain a sufficient number of these
professionals could hinder the growth of our business. The future success of
Paradigm Holdings will depend on our ability to attract, train, retain and
motivate direct sales, customer support and highly skilled management and
technical employees. We may not be able to successfully expand its direct sales
force, which would limit our ability to expand our customer base. Further, we
may not be able to hire highly trained consultants and support engineers which
would make it difficult to meet our clients' demands. If we cannot successfully
identify and integrate new employees into its business, we will not be able to
manage our growth effectively and we could be forced to curtail or cease our
business operations.
Because a significant component of our growth strategy relates to increasing our
revenue from sales of our services and software, our growth strategy will be
adversely affected if we are unable to develop and maintain an effective sales
force to market our services to our federal and commercial customers. Our sales
force currently consists of seven people. A key component of our growth strategy
is the recruitment of ten additional sales executives. Our effort to build an
effective sales force may not be successful and, therefore, we could be forced
to curtail or cease our business operations.
ii
We may lose money or generate less than anticipated profits if we do not
accurately estimate the cost of an engagement which is conducted on a
fixed-price basis
We perform a significant portion of our engagements on a fixed-price basis. We
derived 52% of our total revenue in FY2004 and 50% of our total revenue in
FY2003 from fixed-price contracts. Fixed price contracts require us to price our
contracts by predicting our expenditures in advance. In addition, some of our
engagements obligate us to provide ongoing maintenance and other supporting or
ancillary services on a fixed-price basis or with limitations on our ability to
increase prices. Many of our engagements are also on a time-and-material basis.
While these types of contracts are generally subject to less uncertainty than
fixed-price contracts, to the extent that our actual labor costs are higher than
the contract rates, our actual results could differ materially from those
anticipated.
When making proposals for engagements on a fixed-price basis, we rely on our
estimates of costs and timing for completing the projects. These estimates
reflect our best judgment regarding our capability to complete the task
efficiently. Any increased or unexpected costs or unanticipated delays in
connection with the performance of fixed-price contracts, including delays
caused by factors outside our control, could make these contracts less
profitable or unprofitable. From time to time, unexpected costs and
unanticipated delays have caused us to incur losses on fixed-price contracts,
primarily in connection with state government clients. On rare occasions, these
losses have been significant. In the event that we encounter such problems in
the future, our actual results could differ materially from those anticipated.
Security breaches in sensitive government systems could result in the loss of
clients and negative publicity
Some of the systems we develop involve managing and protecting information
involved in sensitive government functions. A security breach in one of these
systems could cause serious harm to our business, could result in negative
publicity and could prevent us from having further access to such critically
sensitive systems or other similarly sensitive areas for other government
clients, which could force us to curtail or cease our business operations.
Losses that we could incur from such a security breach could exceed the policy
limits under the "errors and omissions" liability insurance we are currently
evaluating.
If we cannot obtain the necessary security clearances, we may not be able to
perform classified work for the government and our revenues may suffer
Government contracts require us, and some of our employees, to maintain security
clearances. If we lose or are unable to obtain security clearances, the client
can terminate the contract or decide not to renew it upon its expiration. As a
result, if we cannot obtain the required security clearances for our employees
working on a particular engagement, we may not derive the revenue anticipated
from the engagement, which, if not replaced with revenue from other engagements,
could force us to curtail or cease our business operations.
We depend on our senior management team, and the loss of any member may
adversely affect our ability to obtain and maintain clients
We believe that our success depends on the continued employment of our senior
management team. We have key executive life insurance policies for each member
of the team for up to $1 million. This includes Raymond A. Huger, Chairman &
CEO; Frank J. Jakovac, President & COO; and Mark A. Serway, SVP & CFO. Their
dependence, in addition to other members on the executive team, is particularly
important to our business because personal relationships are a critical element
of obtaining and maintaining client engagements. If one or more members of our
senior management team were unable or unwilling to continue in their present
positions, such persons would be difficult to replace and our business could be
seriously harmed. Furthermore, clients or other companies seeking to develop
in-house capabilities may attempt to hire some of our key employees. Employee
defections to clients or competitors would not only result in the loss of key
employees but could also result in the loss of a client relationship or a new
business opportunity. Any losses of client relationships could seriously harm
our business and force us to curtail or cease our business operations.
We may have difficulty identifying and executing acquisitions on favorable terms
and therefore may grow at slower than anticipated rates
One of our key growth strategies will be to selectively pursue acquisitions.
Through acquisitions, we plan to expanded our base of federal government and
commercial clients, increased the range of solutions we offer to our clients and
deepened our penetration of existing clients. We may encounter difficulty
identifying and executing suitable acquisitions. Without acquisitions, we may
not grow as rapidly as the market expects, which could cause our actual results
to differ materially from those anticipated. We may encounter other risks in
executing our acquisition strategy, including:
o increased competition for acquisitions may increase the costs of our
acquisitions;
o our failure to discover material liabilities during the due diligence
process, including the failure of prior owners of any acquired businesses
or their employees to comply with applicable laws or regulations, such as
the
iii
Federal Acquisition Regulation and health, safety and environmental laws,
or their failure to fulfill their contractual obligations to the federal
government or other customers; and
o acquisition financing may not be available on reasonable terms or at all.
Each of these types of risks could cause our actual results to differ materially
from those anticipated.
We may have difficulty integrating the operations of any companies we acquire,
which could cause actual results to differ materially from those anticipated
The success of our acquisition strategy will depend upon our ability to
successfully integrate any businesses we may acquire in the future. The
integration of these businesses into our operations may result in unforeseen
operating difficulties, absorb significant management attention and require
significant financial resources that would otherwise be available for the
ongoing development of our business. These integration difficulties include the
integration of personnel with disparate business backgrounds, the transition to
new information systems, coordination of geographically dispersed organizations,
loss of key employees of acquired companies, and reconciliation of different
corporate cultures. For these or other reasons, we may be unable to retain key
clients of acquired companies. Moreover, any acquired business may fail to
generate the revenue or net income we expected or produce the efficiencies or
cost-savings that we anticipated. Any of these outcomes could cause our actual
results to differ materially from those anticipated.
Audits of our government contracts may result in a reduction in the revenue we
receive from those contracts or may result in civil or criminal penalties that
could harm our reputation
Federal government agencies routinely audit government contracts. These agencies
review a contractor's performance on its contract, pricing practices, cost
structure and compliance with applicable laws, regulations and standards. An
audit could result in a substantial adjustment to our revenues because any costs
found to be improperly allocated to a specific contract will not be reimbursed,
while improper costs already reimbursed must be refunded. If a government audit
uncovers improper or illegal activities, we may be subject to civil and criminal
penalties and administrative sanctions, including termination of contracts,
forfeiture of profits, suspension of payments, fines and suspension or debarment
from doing business with federal government agencies. In addition, if
allegations of impropriety were made against us or we could be forced to curtail
or cease our business operations.
We may be liable for penalties under a variety of procurement rules and
regulations, and changes in government regulations could slow our growth or
reduce our profitability
We must comply with and are affected by federal government regulations relating
to the formation, administration and performance of government contracts. These
regulations affect how we do business with our clients and may impose added
costs on our business. Any failure to comply with applicable laws and
regulations could result in contract termination, price or fee reductions or
suspension or debarment from contracting with the federal government, which
could force us to curtail or cease our business operations. Further, the federal
government may reform its procurement practices or adopt new contracting methods
relating to the GSA Schedule or other government-wide contract vehicles. If we
are unable to successfully adapt to those changes, our business could be
seriously harmed.
Risks related to the information technology solutions and services market
competition could result in price reductions, reduced profitability and loss of
market share
Competition in the federal marketplace for information technology solutions and
services is intense. If we are unable to differentiate our offerings from those
of our competitors, our revenue growth and operating margins may decline, which
could force us to curtail or cease our business operations. Many of our
competitors are larger and have greater financial, technical, marketing and
public relations resources, larger client bases and greater brand or name
recognition than Paradigm. Our larger competitors may be able to provide clients
with additional benefits, including reduced prices. We may be unable to offer
prices at those reduced rates, which may cause us to lose business and market
share. Alternatively, we could decide to offer the lower prices, which could
harm our profitability. If we fail to compete successfully, our business could
be seriously harmed, which could force us to curtail or cease our business
operations.
Our current competitors include, and may in the future include, information
technology services providers and large government contractors such as QSS
Group, Pragmatics, Computer & Hi-Tech Management, Inc., Booz-Allen & Hamilton,
Computer Sciences Corporation, RSIS, SRA, ATS, Electronic Data Systems, PEC
Solutions, Science Applications International Corporation, and Lockheed Martin.
iv
Current and potential competitors have also established or may establish
cooperative relationships among themselves or with third parties to increase
their ability to address client needs. Accordingly, it is possible that new
competitors or alliances among competitors may emerge and rapidly acquire
significant market share. In addition, some of our competitors may develop
services that are superior to, or have greater market acceptance than the
services that we offer.
Our growth will be harmed if a viable market for government information
technology services is not sustained
We cannot be certain that a viable government market for technology services
will be sustainable. If this market is not sustained and we are unable to
refocus our services on the private sector market or other in-demand
technologies, our growth would be negatively affected.
Although government agencies have recently increased focus on and funding for
technology initiatives, we cannot be certain that these initiatives will
continue in the future. Budget cutbacks or political changes could result in a
change of focus or reductions in funding for technology initiatives, which could
force us to curtail or cease our business operations.
Risks related to the ownership of our common stock, quarterly revenues and
operating results could be volatile and may cause our stock price to fluctuate
The rate at which the federal government procures technology may be negatively
affected following changes in Presidential Administrations and in Senior
Government officials. As a result, our operating results could be volatile and
difficult to predict, and period-to-period comparisons of our operating results
may not be a good indication of our future performance.
A significant portion of our operating expenses, such as personnel and
facilities costs, are fixed in the short term. Therefore, any failure to
generate revenues according to our expectations in a particular quarter could
result in reduced income in the quarter. In addition, our quarterly operating
results may not meet the expectations of securities analysts or investors, which
in turn may have an adverse affect on the market price of our common stock.
Our common stock is deemed to be "penny stock," which may make it more difficult
for investors to sell their shares due to suitability requirements
Our common stock is deemed to be "penny stock" as that term is defined in Rule
3a51-1 promulgated under the Securities Exchange Act of 1934. Penny stocks are
stock:
o With a price of less than $5.00 per share
o That are not traded on a "recognized" national exchange
o Whose prices are not quoted on the NASDAQ automated quotation system
(NASDAQ listed stock must still have a price of not less than $5.00
per share) or
o In issuers with net tangible assets less than $2.0 million (if the
issuer has been in continuous operation for at least three years) or
$5.0 million (if in continuous operation for less than three years),
or with average revenues of less than $6.0 million for the last
three years.
Broker/dealers dealing in penny stocks are required to provide potential
investors with a document disclosing the risks of penny stocks. Moreover,
broker/dealers are required to determine whether an investment in a penny stock
is a suitable investment for a prospective investor. These requirements may
reduce the potential market for our common stock by reducing the number of
potential investors. This may make it more difficult for investors in our common
stock to sell shares to third parties or to otherwise dispose of them. This
could cause our stock price to decline.
Our business may be adversely affected if we cannot collect our receivables
We depend on the collection of our receivables to generate cash flow, provide
working capital, pay debt and continue our business operations. If the federal
government, any of our other clients or any prime contractor for whom we are a
subcontractor fails to pay or delays the payment of their outstanding invoices
for any reason, our business and financial condition may be materially adversely
affected. The government may fail to pay outstanding invoices for a number of
reasons, including lack of appropriated funds or lack of an approved budget.
Some prime contractors for whom we are a subcontractor have significantly less
financial resources than we do, which may
v
increase the risk that we may not be paid in full or payment may be delayed.
If we experience difficulties collecting receivables it could cause our actual
results to differ materially from those anticipated.
Investors should not rely on an investment in our stock for the payment of cash
dividends
We have not paid any cash dividends on our capital stock and we do not
anticipate paying cash dividends in the future. Investors should not make an
investment in our common stock if they require dividend income. Any return on an
investment in our common stock will be as a result of any appreciation, if any,
in our stock price.
vi
TABLE OF CONTENTS
PART I
ITEM 1. BUSINESS .........................................................................1
ITEM 2. PROPERTIES ......................................................................11
ITEM 3. LEGAL PROCEEDINGS................................................................11
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS..............................12
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS...........13
ITEM 6. SELECTED FINANCIAL DATA..........................................................15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.....................................................................16
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.......................20
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA .....................................20
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE...........................................................20
ITEM 9A. CONTROLS AND PROCEDURES..........................................................20
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY..................................21
ITEM 11. EXECUTIVE COMPENSATION...........................................................23
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT...................25
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS..................................25
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES...........................................25
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES .........................................26
Signatures
vii
PART I
ITEM 1. BUSINESS
Company Overview
Paradigm Holdings Inc. ("PDHO"; website: - www.paradigmsolutions.com) provides
information technology and business continuity solutions to government and
commercial customers. Headquartered in Rockville, Maryland, the company was
founded on the philosophy of high standards of performance, honesty, integrity,
customer satisfaction and employee morale. With an established core foundation
of experienced executives, the Company rapidly grew from six employees in 1996
to the current level of more than 300 personnel. Revenues grew from $51 million
in 2003 to over $61 million by the end of 2004. During this period of growth,
Paradigm remained centered on information technology services and solutions.
Paradigm Holdings Inc. consists of two subsidiary companies: Paradigm Solutions
Corporation (PSC), which was incorporated in 1996 to deliver information
technology Infrastructure Support Services and Software Engineering Support
Services to Federal Agencies, and Paradigm Solutions International (PSI), which
was incorporated in 2004 to deliver Business Continuity Planning and Emergency
Management Services and software to commercial and government clients.
Paradigm Solutions Corporation provides support for mission-critical systems in
key federal agencies such as the Departments of Justice, Treasury and Homeland
Security. These agencies and the focus on mission critical systems were chosen
for their growth potential. According to Input Technologies, the market for
information technology solutions in these agencies is projected to grow at a
CAGR of nearly 8% between 2004 and 2008.
Paradigm Holdings formed the PSI subsidiary company to produce a
fully-integrated solution for protecting businesses from "all hazard"
interruptions. A customized consulting methodology was developed to provide
clients with a comprehensive picture of the risks to their operations,
facilities and people. The software tool, OpsPlanner(TM) is one of the first
tool sets to encompass continuity planning, emergency management and automated
notification in one easy-to-use platform. From inception, this platform was
developed as an integrated application--unlike the prevailing competitors which
developed continuity planning, emergency management and automated notification
as separate software modules. This technology, when implemented with Paradigm's
consulting methods, offers a superior solution in the continuity of operations
planning and risk management area. The release of this Software tool was made in
January of 2005.
Paradigm has achieved significant accomplishments including the launch of the
Continuous Paradigm Process and Product Improvement (CP(3)I), the continued
evolution of Paradigm's ISO 9001:2000 Quality Management Office, the
establishment of strategic Mentor Protege relationships, and success in building
a backlog of business over the last year. Additionally, Paradigm has won over
75% of its pursued competitive procurements, greatly exceeding the industry
standard win rate of 30% to 40%. The Company not only won new business with the
Department of Treasury in 2004, but it also won numerous recompetes of existing
contracts including three with the Office of the Comptroller of the Currency,
four with the National Technical Information Service, and one with the
Department of Housing and Urban Development. Paradigm won over 70% of the
pursued GWAC (Government Wide Acquisition Contracts) vehicles including the
Department of Justice ITSS III and State of Maryland MCS. The Company also
successfully penetrated the DOD arena, gaining access to multiple GWACs such as
DISA Encore, Army MADD-1, Army CONUS Support Base Services (CSBS), and MATOC
Naval Research Systems Integration.
Paradigm has also achieved success providing information technology services to
many satisfied government and commercial clients, including the Departments of
Homeland Security, Justice, Commerce, Housing and Urban Development, the Small
Business Administration, IBM, Lockheed Martin, EDS, and the World Bank. Largely
as a result of excellent customer service, Paradigm continues to receive
industry awards and recognition for exceptional performance and growth.
o Through a careful analysis of its current marketing practices,
Paradigm has determined that its strategic marketing knowledge and
concepts are sound and will continue to produce desirable results in
both the federal and commercial sectors. The Company will maximize
revenue through continued growth in its core client base and through
selected acquisitions that strengthen and expand its ability to help
government and commercial clients achieve effective disaster
recovery and business continuity.
Paradigm's dedication to its customers is reflected in the numerous customer and
industry awards it has received:
o United States Secret Service Certificate of Appreciation - 2004
1
o Department of Treasury Small Business Partner of the Year - 2004
o Internal Revenue Service - Nominated as the IRS Small Business
Partner of the Year - 2003 and 2002
o Inc. 500 Fastest Growing Private Companies - 2003
o Washington Technology Fast 50 - 2003 and 2002
o VAR Business Top 500 National Solutions Provider - 2004, 2003 and
2002
o Black Enterprise Magazine Top 100 Black-Owned Businesses - 2003 and
2002
o Post/Newsweek Tech Media Top Minority-Owned IT Firm - 2003 and 2002
o Washington Technology Top 25 8(a) Contractors - 2004, 2003 and 2002
o Government Computer News Industry Information Technology Award -
2003
o Strategic Airport Security Rollout (SASR) Certificate of Recognition
- 2002
Corporate Organization
On November 3, 2004, Paradigm Holdings Inc., entered into an Agreement and Plan
of Reorganization with Paradigm Solutions Merger Corp., a Delaware corporation
and wholly-owned subsidiary of Paradigm Holdings (the "Merger Sub"), Paradigm
Solutions Corporation, a Maryland corporation and the shareholders of Paradigm
Solutions Corporation. Pursuant to the Agreement and Plan of Reorganization, the
Merger Sub was merged with and into Paradigm Solutions Corporation, the
surviving corporation and continues its existence under the laws of the State of
Maryland and is a wholly-owned subsidiary of Paradigm Holdings Inc. In
consideration of the Merger, the Paradigm Solutions Corporation shareholders
exchanged 13,699 shares of common stock of Paradigm Solutions Corporation, which
was 100% of the issued and outstanding capital stock of Paradigm Solutions
Corporation, for 17,500,000 shares of common stock of Paradigm Holdings Inc.
Our Growth Strategy
We have implemented the following strategies to position the business to capture
additional revenue in the federal information technology and business continuity
markets:
o Maintain and expand our existing client relationships. We maintain
relationships with our existing clients by adhering to our culture
of respect and providing quality performance. We believe this helps
us win renewals of our engagements. In addition, we use our
knowledge of our clients' needs to identify additional opportunities
and cross-sell new services to them. Paradigm believes that its
customer focus is the foundation of its success to date. This focus
is critical for the creation of long-term value. The Company does
not intend to compromise its customer focus, nor any of its core
values for short-term economic gain.
o Leverage our existing client base to win new clients. We believe
satisfied clients are one of our most effective marketing tools.
Since FASA 94 went into effect, client referrals have become a
crucial component of expedited procurement processes and are key to
our winning new contracts. Since we focus on technology
infrastructure improvement, we are able to transfer our skills
readily from client to client. We plan to continue building a
network of clients and leveraging these relationships to gain access
to new clients. We also plan to build our relationships with other
systems integrators, so that we can expand our partnership
opportunities (both prime and subcontractor) for future business. We
believe that favorable client referrals are strategically important
to our winning these opportunities.
o Strategic acquisitions. We plan to pursue acquisitions in 2005 that
will position us in the future with strategically important
technical skills for our existing federal customers, access to new
federal clients and agencies, and expand our geographical reach. Our
commercial acquisition strategy will focus on selective regional
consulting firms with pre-existing customer relationships and
business development professionals in the business continuity space
in addition to a national notification vendor who can be effectively
integrated into the Paradigm Solutions International business model.
o Strengthen Sales & Business Development Workforce. Add experienced
sales professionals, consultants, and sales engineers in targeted
federal agencies and commercial geographic markets.
2
o Organizational Development. Create an organizational culture that
provides clear, consistent, and strategic leadership, incentives,
and growth opportunities for employees.
o Product Enhancement. Continue to enhance the product capabilities of
the OpsPlanner(TM) software suite to deliver the most comprehensive,
easy-to-use continuity preparedness tools and risk management
services to both federal and commercial customers.
Paradigm Solutions Corporation (PSC)
Paradigm Solutions Corporation is steadfast in its commitment to best practices
in meeting changing requirements and providing cutting-edge innovations to
advance our client's mission. We focus on delivering high-quality information
technology services on-time and within budget through seamless transitions,
program stability, and effective contract implementation and administration.
Government Reform is Driving Growth in Technology Spending
We believe that political pressures and budgetary constraints are forcing
government agencies at all levels to improve their processes and services and to
operate more like commercial enterprises. Organizations throughout the federal,
state and local governments are investing heavily in information technology to
improve effectiveness, enhance productivity and extend new services in order to
deliver increasingly responsive and cost-effective public services.
Changes over the mid to late 1990's in federal government contract procurement
and compliance regulations have streamlined the government's buying practices,
resulting in a more commercial approach to the procurement and management of
technologies and services. As a result, procurement lead times have decreased
and government buyers now have greater flexibility to purchase services on the
basis of distinguishing corporate capabilities and successful past performance.
Federal government entities are now able to award contracts based on factors
other than price alone, if they judge that the government would receive a
greater value. In addition, the General Services Administration's (GSA)
extension of basic government-wide contract vehicles for procuring technology
components and services, the GSA Schedules, makes purchasing technology services
easier and faster. Federal government buyers can now order services directly
from pre-approved providers instead of using a time-consuming bid solicitation
process. We believe that these changes have improved our ability to successfully
pursue business in the government market. There are currently no proposed
changes to government procurement regulations that we believe will materially
affect our business in the immediate future.
Government's Need to Outsource Technology Programs
Government organizations rely heavily on outside contractors to provide skilled
resources to accomplish technology programs. We believe that this reliance will
continue to intensify due to political and budgetary pressures in many
government agencies and due to the difficulties government faces in recruiting
and retaining highly skilled technology professionals in a competitive labor
market. In concert with its transition to more commercial practices, government
is increasingly outsourcing technology programs as a means of simplifying the
implementation and management of the technology, so that government workers can
focus on their mission.
Technology Services Providers in the Government Sector
Engagements in the government market can be broadly classified into four
categories based on the type of services provided. Many companies provide a mix
of services across these categories.
First, at the low end, providing information technology staff augmentation at
low hourly rates typically involves placing staff in client facilities. These
engagements typically exhibit low operating margins and slow growth.
Second, large-scale systems integration and outsourcing engagements typically
involve assuming responsibility for acquiring, assembling and operating large
inventories of equipment and software. Major portions of these engagements
involve reselling commodity technologies at highly competitive fixed unit
prices. These engagements typically exhibit moderate growth, but low operating
margins.
Third, large-scale systems development engagements involve providing
full-service solutions that combine hardware, software development, system
engineering and operations. These engagements typically exhibit moderate growth
and operating margins.
3
Fourth, at the high end, engagements involving high-value management consulting
and development and integration of complex systems in core mission areas use
specialized or emerging technologies such as the Internet and advanced security.
These engagements typically exhibit strong growth and operating margins.
Market Forecasts
The ongoing transformation of the Federal Government's information systems and
communication networks is creating an increase in its demand for information
technology, or IT, services. According to INPUT, a quantifiable leader in
Government Market Intelligence, federal government information technology
spending that is contracted out by the federal government is projected to
increase by $22.1 billion from $58.6 billion in government fiscal 2004 to $80.7
billion in government fiscal 2009, a compound annual growth rate of
approximately 6.6%(1). In addition, the U.S. Air Force addressable spending,
which is the amount that is contracted out, is projected by INPUT to grow from
$4.3 billion in government fiscal 2004 to $6.8 billion in government fiscal
2009, representing a compounded annual growth rate of 9.6%(2). We expect that
the federal government's need for the types of information technology services
that we provide will continue to grow in the foreseeable future, as a result of
the high priority placed by the federal government on the transformation of its
information technology programs. INPUT forecasts that the percentage of
information technology spending that is contracted out by the federal government
will reach a high of 86% in fiscal 2009(3).
According to INPUT, the federal government has estimated that more than 30% of
current members of the federal government workforce, as described above, in
supervisory positions will be eligible for retirement by 2007, and the average
age of federal government employees increased from 42 years of age in 1990 to 46
years of age in 2004(4). In April 2001, the GAO concluded in a report that the
federal government's human capital challenges are adversely affecting the
ability of many agencies to carry out their missions(5).
Our Solution
We are a technology solutions and service provider that addresses the needs and
particular challenges of the evolving government market by combining the
following key elements in our solutions:
Infrastructure Support Services
Paradigm Solutions provides comprehensive information technology infrastructure
support services including design, implementation, maintenance, and
administration. We work with our clients to determine the best outsourcing
solution to meet their requirements while maximizing their return on investment.
Our project managers and technical teams collaborate with our clients to define
the scope, deliverables, and milestones for each project.
Support services include all aspects of project planning, facilities build-out,
implementation, and operations and encompass the following critical areas:
o Infrastructure Design and Implementation
o Service Center Solutions
o Data Center Operations
o Network Operations Center Support
o Network Security and Management
o Desktop Support and Administration
o Telecommunications
- --------
(1) INPUT Federal IT Market Forecast, FY 2004 - FY 2009, Pg. 34
(2) IBID Pg. 80
(3) IBID Pg. 7
(4) IBID Pg. 22
(5) IBID Pg. 23
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o Depot Maintenance
o Disaster Recovery Support
o Information Security Solutions
o Database Administration
Paradigm manages projects proactively with aggressive risk management, complete
planning, and continual status reporting to ensure project success. We employ
automation, management, and administration tools through strategic partnerships
with innovative vendors. These partnerships provide our clients with readily
accessible solutions that meet their critical needs in a timely and
cost-effective manner.
Software Engineering Support Services
With many years of experience in software, systems, and database design and
development for numerous clients, Paradigm Solutions has developed the expertise
and methodologies required to provide software engineering support services for
all phases of the development lifecycle. Our software engineering experts are
available to augment an existing development team or support outsourcing of any
portion of a development effort.
Paradigm's services consist of new development, maintenance and support, as well
as migration of legacy systems to modern platforms. Our services encompass the
following critical areas:
o Requirements Engineering
o Configuration Management
o Software Quality Assurance
o Independent Verification and Validation
o Application Development for Web, Client/Server, and Mainframe
Platforms
o Legacy Systems Migration and Data Conversion
o Database Design and Development
o Data Warehousing and Data Mining
o Application Security
Our seasoned project managers and experienced technical teams collaborate with
our clients to define the scope, deliverables, and milestones for each project
to ensure our clients' expectations are realized. Our project managers ensure
projects stay on track using aggressive risk management and iterative planning,
with continuous status reporting to our clients.
Existing Contract Profiles
We currently have a portfolio of more than 27 active contracts. Our contract mix
for the year ended December 31, 2004 was 52% fixed price contracts, 29% time and
materials contracts, and 19% cost-plus contracts.
Under a fixed price contract, the contractor agrees to perform the specified
work for a firm fixed price. To the extent that actual costs vary from the price
negotiated we may generate more or less than the targeted amount of profit or
even incur a loss. We generally do not pursue fixed price software development
work that may create material financial risk. We do, however, execute some fixed
price labor hour and fixed price level of effort contracts which represent
similar levels of risk as time and materials contracts. The substantial majority
of these fixed price contracts involve a defined number of hours or a defined
category of personnel. We refer to such contracts as "level of effort"
contracts.
Under a time and materials contract, the contractor is paid a fixed hourly rate
for each direct labor hour expended and is reimbursed for direct costs. To the
extent that actual labor hour costs vary significantly from the negotiated rates
under a time and materials contract, we may generate more or less than the
targeted amount of profit.
Cost-plus contracts provide for reimbursement of allowable costs and the payment
of a fee which is the contractor's profit. Cost-plus fixed fee contracts specify
the contract fee in dollars or as a percentage of allowable costs. Cost-plus
incentive fee and cost-plus award fee contracts provide for increases or
decreases in the contract fee, within specified limits, based upon actual
results as compared to contractual targets for factors such as cost, quality,
schedule and performance.
5
Our historical contract mix is summarized in the table below.
Contract Mix
Contract Type 2002 2003 2004
- ------------- ---- ---- ----
Fixed Price (FFP) 54% 57% 52%
Time and Materials (T&M) 45% 31% 29%
Cost-Plus (CP) 1% 12% 19%
Listed below are our top programs by 2004 revenue, including single award and
multiple award contracts. We are a prime contractor on each of these programs.
Top Programs /Contracts by 2004 Revenue
($ in millions)
Estimated
Period of 2004 Remaining Contract
Programs Customer Performance Revenue Contract Value Type
-------- -------- ----------- ------- -------------- ----
Long Term Maintenance of Computing Center Department of Treasury - IRS 6/01 - 9/05 $ 18.2 $ 9.9 FFP
Alcohol, Tobacco & Firearms Department of Justice 2/02 - 2/07 10.6 18.6 CP
Community Planning & Development Housing and Urban Development 3/03 - 3/07 7.0 19.7 FFP
United States Secret Service Department of Homeland Security 9/99 - 9/05 5.0 4.5 T&M
Description of Major Programs / Contracts
Department of the Treasury - Internal Revenue Service, Long Term Maintenance of
Computing Centers (LTMCC)
Paradigm provides computing center hardware maintenance and software
administration support to the IRS main Tax Reporting Systems in Detroit,
Michigan and Martinsburg, West Virginia. At the IRS Detroit Computing Center
(DCC), Paradigm currently responds to hardware remedial and preventive
maintenance and we administer the software that resides on the IBM z990,
2084-302 mainframe. Paradigm's staff of technicians supports the Enterprise
Computing Center at Martinsburg more than 1425 IBM/IBM compatible peripherals
and higher maintenance items in place at the IRS that include sophisticated tape
drives, monitors, and printers. In support of the IRS on our current contracts,
Paradigm currently provides service for the zSeries 990 mainframes and support
for the MasterFile mainframes that utilize three IBM ESS "Shark" Direct Access
Storage Device (DASD) sub-systems and the IBM Virtual Tape sub-system and
various other peripherals such as the ESCON Directors. Over four hundred CLIN's
(Contract Line Item Numbers) of hardware components are maintained by Paradigm
and subcontractors in Martinsburg, and over two hundred CLIN's of hardware
components are maintained in Detroit. Software administration requires the
accurate tracking of over two hundred CLIN's of software components, provided by
39 vendors, insuring accurate reporting, version and release levels of software,
product announcements, etc. are communicated to appropriate IRS personnel. We
have established a technical support center to resolve problems on a 24x7x365
basis.
Department of Justice - Alcohol Tobacco, Firearms and Explosives
Paradigm provides software development and corrective, perfective and adaptive
software maintenance services in support of the Tax and Trade Bureau tax
collection mission. Paradigm's staff utilizes JAVA J2EE and Swing technologies
along with the Oracle 9i suite consisting of Forms, Reports, Discoverer,
Designer application server and Database. Paradigm also maintains legacy
applications developed in PowerBuilder. The staff is responsible for supporting
the full Systems Development Life Cycle utilizing a variety of industry
best-of-breed tools including Caliber-RM Requirements Management, Serena PVCS
Configuration Management, JDeveloper and the Mercury Test suite.
Housing and Urban Development - Community Planning and Development (CPD)
Paradigm provides Corrective, Adaptive and Re-engineering software development
services in support of CPD's Grants Management Systems. This includes upgrades,
minor enhancements and legacy system migration to HUD's enterprise architecture.
Software engineering services include J2EE, Powerbuilder, Cobol CICS II and
Visual Basic with SQL Server, DB2 and Oracle backends.
6
Department of Homeland Security - United States Secret Service (USSS)
Paradigm provides a technically sound and cost-effective Facilities Management
environment with emphasis placed on quality services to support the USSS's
critical mission. Paradigm staff provides IBM 7060-H50 Mainframe, EMC disk
storage, and StorageTek tape silo Mainframe Hardware and Computer Operations
Support. The Paradigm Team also provides OS-390 Systems Programming, WAN/LAN
Administration, Database Administration of Oracle and CA-IDMS databases, Help
Desk support utilizing Front Range System's HEAT Help Desk Suite CA-IDMS
Software Development, and Business Continuity Planning services.
Backlog
Backlog is our estimate of the amount of revenue we expect to realize over the
remaining life of awarded contracts and task orders we have in hand as of the
measurement date. Our total backlog consists of funded and unfunded backlog. We
define funded backlog as estimated future revenue under government contracts and
task orders for which funding has been appropriated by Congress and authorized
for expenditure by the applicable agency, plus our estimate of the future
revenue we expect to realize from our commercial contracts. Unfunded backlog is
the difference between total backlog and funded backlog. Unfunded backlog
reflects our estimate of future revenue under awarded government contracts and
task orders for which either funding has not yet been appropriated or
expenditure has not yet been authorized. Our total backlog does not include
estimates of revenue from government-wide acquisition contracts, or GWAC
contracts, or General Services Administration, or GSA, schedules beyond awarded
or funded task orders, but our unfunded backlog does include estimates of
revenue beyond awarded or funded task orders for other types of indefinite
delivery, indefinite quantity, or ID/IQ, contracts.
Our total backlog as of December 31, 2004 was approximately $125 million, of
which approximately $35 million was funded. However, there can be no assurance
that we will receive the amounts we have included in our backlog or that we will
ultimately recognize the full amount of our funded backlog as of December 31,
2004 that we estimate will be recognized as revenue during fiscal 2005 or
thereafter.
We believe that backlog is not necessarily indicative of the future revenue that
we will actually receive from contract awards that are included in calculating
our backlog. We assess the potential value of contracts for purposes of backlog
based upon several subjective factors. These subjective factors include our
judgments regarding historical trends (i.e., how much revenue we have received
from similar contracts in the past), competition (i.e., how likely are we to
successfully keep all parts of the work to be performed under the contract) and
budget availability (i.e., how likely is it that the entire contract will
receive the necessary funding). If we do not accurately assess each of these
factors, or if we do not include all of the variables that affect the revenue
that we recognize from our contracts, the potential value of our contracts, and
accordingly, our backlog, will not reflect the actual revenue received from
contracts and task orders. As a result, there can be no assurance that we will
receive amounts included in our backlog or that monies will be appropriated by
Congress or otherwise made available to finance contracts and task orders
included in our backlog. Many factors that affect the scheduling of projects
could alter the actual timing of revenue on projects included in backlog. There
is always the possibility that the contracts could be adjusted or cancelled. We
adjust our backlog on a quarterly basis to reflect modifications to or renewals
of existing contracts.
Competitive Analysis
We operate in markets that are highly competitive and include a large number of
participants. We compete with many companies, both large and small, for our
contracts. We do not have a consistent number of competitors against whom we
repeatedly compete. If we anticipate that our combined resources may create a
competitive advantage, we may team with other companies to perform work under
contracts. These and other companies in our market may compete more effectively
than we can because they are larger, have greater financial and other resources,
have better or more extensive relationships with governmental officials involved
in the procurement process and have greater brand or name recognition.
As a result of the diverse requirements of the Federal Government and our
commercial clients, we frequently form teams with the companies in our markets
in order to compete for large procurements, while bidding against them in other
situations.
In each of our practice areas, we generally bid against companies of varying
sizes and specialties, from small businesses to multi-billion dollar
corporations. Because of the current industry trend toward consolidation, some
of these companies may emerge better able to compete with us. Therefore, it is
essential that we differentiate ourselves from these companies. We believe that
our technical abilities, client relationships, past performance, cost
containment, reputation and ability to provide quality personnel give us a
strong presence in the markets we serve. In addition, we believe that our
culture of respect for and commitment to our clients and business partners
greatly aids our business. While we believe these factors help to set us apart
7
from other companies in our markets, we may not be able to continue to maintain
our competitive position, as new companies enter the marketplace and alliances
and consolidations among competitors emerge. Some companies in our markets have
longer operating histories, greater financial and technological capabilities,
greater brand or name recognition and/or larger client bases than we have.
Business Development Summary
Paradigm Solutions Corporation's business development plans include the
following:
o Implementation of a highly structured approach to federal
opportunity identification, qualification and capture.
o Rapid solutions integration and prototyping through the Company's
Innovation Center for Excellence (iCenter) to meet federal
customers' highly specific requirements.
o Additional sales force based on Paradigm's federal core competencies
and client needs in specific application areas.
o Enhanced pool of subject matter experts in the application areas of
Enterprise Resource Planning (ERP), Enterprise Applications (EA),
and Call Center technology.
o Leveraging iCenter subject matter expert's role in business
development to increase contract award and shorten bid response
times.
o Implementation of Level 2 CMMI processes to increase contract award
opportunities.
Paradigm Solutions International (PSI)
Paradigm Solutions International is our newly formed subsidiary of Paradigm
Holdings, Inc., incorporated in December of 2004, engaged in the development and
delivery of continuity and information technology security/risk management
consulting. The focus is on improving the ways commercial businesses and
government agencies are prepared to respond to and recover from "all hazard"
interruptions to their operations. PSI's innovations in business continuity
development, planning, and information technology security will position it as
the leader in the fragmented Business Continuity and Continuity of Operations
industry.
OpsPlanner(TM) software is being developed to be the first completely integrated
logical system for the preparation for, management of, and continuous
improvement of an organization's ability to withstand and recover from "all
hazards" to their operations. The purpose of Business Continuity Planning (BCP)
is to enable organizations to prepare for emergencies and disruptions such as
natural disasters from hurricanes and floods as well as blackouts, fires,
terrorist attacks and cyber attacks. Crisis Management is a related discipline
that deals with real-time management of emergencies and recovery from damage.
These business practices have received a great deal of attention following the
911 terrorist attacks on the U.S. In fact, the 911 Commission has explicitly
stressed the need for BCP as a key aspect of private sector preparedness.
Several vendors provide a variety of products to help organizations with BCP and
crisis management. Such products fall into the following categories:
1. Risk Assessment and Business Impact Analysis: Enables the process of
understanding risks and assessing impact of potential disruptions.
2. BCP: Makes creation and update of BC (Business Continuity) plans
productive and efficient.
3. Incident Management: Puts BCP into action during emergencies and
tracks progress against plans.
4. Crisis Communication: Used to mobilize and communicate with
emergency teams during a crisis.
Collectively, these categories form the Business Continuity market.
Increasingly, vendors are offering products that integrate one or more of the
above categories into a single package. Paradigm Solutions International is in
the forefront of this trend having understood this need prior to the beginning
of development.
8
Market Forecasts
o According to Gartner Group, the outlook is optimistic for
cross-industry, cross-regional and sustained improvements in
business continuity due to increased regulatory requirements,
improved overall risk management, recent blackouts and the continued
threat of terrorism. Source: Gartner Group, Strategic Planning
SPA-21-6412, S. Mingay, Research Note, December 29, 2003.
o Heightened Priority: By 2007, more than 50% of enterprises will
classify information technology services availability and Disaster
Recovery (DR) requirements as priorities during the early phases of
the project life cycle - an increase from 15% today (0.7
probability). Source: IBID page 1.
o Strategic Planning Assumptions: By 2006, convergence-specific
viruses and worms will begin to attack VoIP-specific network
elements (0.7 probability). By 2007, brute-force (for example,
denial of service) attacks will regularly disrupt VoIP
communications (0.7 probability). Source: Gartner Group Research,
Predicts 2004: Critical Infrastructure Protection, 14 January 2004.
Market Drivers
During the last year, several factors have combined to greatly increase
awareness of the need for good information technology Risk and Business
Continuity Management (BCM). These factors are outlined as follows:
o Increased regulatory requirements (Sarbanes-Oxley (SOX), corporate
governance).
o Improved overall risk management, as in the emergence of enterprise
risk management.
o The recent blackouts in several countries have almost certainly
acted as the most significant catalysts outside financial services,
the public sector and those areas immediately affected by the events
of September 11, 2001.
o The continued threat of terrorism.
o Employee errors and sabotage.
o Cyber attacks.
o Homeland Security Commission 911 Report standardization on how to
measure preparedness and NFPA 1600 Requirements from credit
companies and insurance agencies that help companies prepare for
insurance requirements.
o Demands from large enterprises that their supply chain suppliers
have business continuity plans in place as a prerequisite for doing
business.
o Natural disasters like hurricanes, floods and tornados.
Product/Service(s) Description
OpsPlanner (TM) Business Continuity / Emergency Management and Notification
Software
o Plan Manager: Business Continuity Planning makes the creation,
maintenance, and update of plans productive and efficient.
o Recovery Manager: Helps organizations activate their plans in an
emergency and track their recovery against the plans. Included in
this module is the notification feature which is used to mobilize
and communicate with emergency teams, suppliers, employees and
government agencies during a crisis.
9
Business Continuity and Information Technology Security Professionals
o Full-time Certified Business Continuity Professionals (CBCPs).
o Certified Network and Security Consultants/Engineers (CISSP,
Security+, etc.).
Business Continuity Planning Services
o Plan Audit, Risk Assessment, and Business Impact Analysis.
o Continuity Plan Development and Testing.
o Organizational Awareness and Improvement.
o Evaluation of Required Application Systems and Services.
o Workflow Analysis.
Information Technology Security Offerings
o Objective Information Technology Security Vulnerability Assessment.
o Information Technology Security Program and Policy Development.
o Information Technology Security Solution Implementation and
Integration.
Competitive Analysis
Paradigm Solutions International faces competition from a small number of
software vendors that are not as well capitalized as Paradigm Holdings Inc. Due
to the integrated nature of the OpsPlanner(TM) software suite, we also face
competition from notification vendors and emergency management software
companies that compete against part of our software solution. In the area of
business continuity consulting, we compete against large companies such as IBM,
Bearing Point and others. In most cases, our services are competitively priced
to allow PSI to act either independently or as a subcontractor to these large
competitors.
Business Development Summary
Paradigm Solutions International's business development plans include the
following:
o Recruit, train, and deploy a highly motivated, professional business
development team.
o Selectively add sales and professional consulting delivery
resources, deployed in a broader geographic area.
o Achieve rapid growth through organic growth and strategic
acquisitions.
o Remain deep and narrow in service offerings.
o Place Paradigm Solutions International offices in key US Cities.
o Continue to focus its efforts for marketing, sales and service
delivery utilizing the following geographic focus:
o Mid-Atlantic states
o Eastern seaboard states
o Disaster-prone locations: Florida, Texas, California, etc.
o High concentration of population and targeted vertical market
organizations in the following cities: Washington, Baltimore, New
York, Philadelphia, Pittsburgh, Atlanta, Boston, Dallas, Los
Angeles, Chicago.
o Increase the number of vendor channel partnerships.
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Culture, People and Recruiting
We have developed a corporate culture that promotes excellence in job
performance, respect for the ideas and judgment of our colleagues, and
recognition of the value of the unique skills and capabilities of our
professional staff. We seek to attract highly qualified and ambitious staff. We
strive to establish an environment in which all employees can make their best
personal contribution and have the satisfaction of being part of a unique team.
We believe that we have successfully attracted and retained highly skilled
employees because of the quality of our work environment, the professional
challenge of our assignments, and the financial and career advancement
opportunities we make available to our staff.
We occupy state-of-the-art facilities that are conducive to highly technical and
collaborative work, while providing individual privacy. In our Innovation
Center, we configure leading-edge equipment and software, and provide our
engineers and developers with advanced tools to evaluate and apply new
technologies.
As of December 31, 2004, we had 299 personnel (full time, part time, and
consultants). Of our total personnel, 261 were Paradigm Solutions Corporation IT
service delivery professionals and consultants, and 38 were management and
administrative personnel performing corporate marketing, human resources,
finance, accounting, legal, internal information systems and administrative
functions. None of our personnel is represented by a collective bargaining unit.
As of December 31, 2003, comparative numbers were 277, 245, and 32,
respectively.
Website Access to Reports
Our filings with the U.S. Securities and Exchange Commission (the "SEC") and
other information, including our Ethics Policy, can be found on the Paradigm
Solutions website (www.paradigmsolutions.com ). Information on our website does
not constitute part of this report. We make available free of charge, on or
through our Internet website, as soon as reasonably practicable after they are
electronically filed or furnished to the SEC, our annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to
those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Exchange Act of 1934.
ITEM 2. PROPERTIES
Our principal offices are located at two locations: Our headquarters location at
2600 Tower Oaks Boulevard, Suite 500, Rockville, Maryland 20852. This principal
office consists of 14,318 sq. feet with a monthly lease cost of $33,408.63 and
is leased until May 31, 2011. Our other primary office, which is in support of
our HUD customer, is located at: 15th and H Streets, N.W. Washington, D.C.
20005. This principal office consists of 16,364 sq. feet with a monthly lease
cost of $35,209.83 and is leased until June 30, 2007.
ITEM 3. LEGAL PROCEEDINGS
Paradigm is involved in litigation, both potential and actual, arising from a
contractual agreement between Paradigm and Norvergence, Inc. ("Norvergence").
Paradigm entered into an agreement with Norvergence for the provision of
telecommunication equipment and services in June, 2003. Under the agreement,
Norvergence promised to supply all of Paradigm's telecommunication needs for a
period of 60 months for the sum of $2,151.75 per month. Soon after executing the
agreement with Paradigm, Norvergence sold a portion of the rights to those
payments to a third party, CIT Technology Financial Services, Inc. ("CIT"). In
July, 2004, Norvergence was forced into bankruptcy by its creditors and, soon
thereafter, Paradigm's telecommunication services provided under the Norvergence
agreement were terminated. Paradigm has taken the position that Norvergence
utilized fraud and deception to obtain the agreement from Paradigm and has
ceased paying either Norvergence or CIT.
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Paradigm has filed an unsecured claim in the Norvergence bankruptcy in the
amount of $314,572.89 plus interest and attorney's fees. The claim is based upon
claims under the N.J.S.A. 56:8-1 et. seq. (which provides for treble damages),
common law fraud and breach of contract. At this juncture of the bankruptcy
proceeding, it seems unlikely that Paradigm will recover a significant portion
of its claim or any interest or attorney's fees. Paradigm also has potential
exposure to a lawsuit from CIT. Paradigm has calculated that it may be liable to
CIT for the sum of $59,299.98 plus interest and attorney's under the agreement
assigned to CIT by Norvergence. CIT has not yet sued Paradigm, but has
threatened to do so. Paradigm intends to vigorously contest any suit against it
by CIT. This potential liability was accrued for in 2004.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
12
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock has been listed on the NASD OTC Electronic Bulletin Board
sponsored by the National Association of Securities Dealers, Inc. under the
symbol "PDHO" since September 14, 2004, following our name change and a 1 for 85
reverse stock split. The shares of Cheyenne Resources traded on the OTC BB under
the symbol "CHYN" from January 2002 to July 2005. The following table contains
the reported high and low bid prices for the common stock as reported on the OTC
BB for the periods indicated.
The following table sets forth the high and low bid prices for the common stock
as reported on the Over-the-Counter Bulletin Board for each quarter since
January 2002 for the periods indicated. Such information reflects inter dealer
prices without retail mark-up, mark down or commissions and may not represent
actual transactions.
The following table sets forth, for the period indicated, the bid price
range of our common stock.
YEAR 2002 High Bid Low Bid
- --------------------------------------------------------------------------------
Quarter Ended March 31, 2002 $ 0.015 $ 0.01
Quarter Ended June 30, 2002 $ 0.016 $0.0071
Quarter Ended September 30, 2002 $ 0.025 $ 0.007
Quarter Ended December 31, 2002 $ 0.007 $ .0005
YEAR 2003 High Bid Low Bid
- --------------------------------------------------------------------------------
Quarter Ended March 31, 2003 $ 0.005 $ 0.001
Quarter Ended June 30, 2003 $ 0.01 $ 0.005
Quarter Ended September 30, 2003 $ 0.01 $ 0.002
Quarter Ended December 31, 2003 $ 0.005 $ 0.002
YEAR 2004 High Bid Low Bid
- --------------------------------------------------------------------------------
Quarter Ended March 31, 2004 $ 0.021 $ 0.005
Quarter Ended June 30, 2004 $ 0.012 $ 0.007
Quarter Ended September 30, 2004 $ 0.35 $ 0.006
Quarter Ended December 31, 2004 $ 5.00 $ 0.35
On March 29, 2005, the closing price of our common stock as reported on the
Over-the-Counter Bulletin Board was $2.80 per share. As of March 29, 2005, we
had in excess of 2,909 holders of common stock and 20,003,368 shares of our
common stock were issued and outstanding. Many of our shares are held in
brokers' accounts, so we are unable to give an accurate statement of the number
of shareholders.
Dividends
We have not paid any dividends on our common stock and do not anticipate paying
any cash dividends in the foreseeable future. We intend to retain any earnings
to finance the growth of the business. We cannot assure you that we will ever
pay cash dividends. Whether we pay any cash dividends in the future will depend
on the financial condition, results of operations and other factors that the
Board of Directors will consider.
Recent Sales Of Unregistered Securities
J. Paul Consulting Corporation, Shortline Equity Partners Inc. and Ultimate
Investments Corporation subscribed for 10,000,000 shares of Common Stock (post
reverse split of one for eighty-five) for $200,000 cash on August 27, 2004. The
transaction was exempt from registration pursuant to section 4(6) of the
Securities Act of 1933.
Corporate Organization
On November 3, 2004, Paradigm Holdings, Inc., entered into an Agreement and Plan
of Reorganization with Paradigm Solutions Merger Corp., a Delaware corporation
and wholly-owned subsidiary of Paradigm Holdings (the "Merger Sub"), Paradigm
Solutions Corporation, a Maryland corporation and the shareholders of Paradigm
Solutions Corporation. Pursuant to the Agreement and Plan of Reorganization, the
Merger Sub was merged with and into Paradigm Solutions Corporation, the
13
surviving corporation and continues its existence under the laws of the State of
Maryland and is a wholly-owned subsidiary of Paradigm Holdings, Inc. In
consideration of the Merger, the Paradigm Solutions Corporation shareholders
exchanged 13,699 shares of common stock of Paradigm Solutions Corporation, which
was 100% of the issued and outstanding capital stock of Paradigm Solutions
Corporation, for 17,500,000 shares of common stock of Paradigm Holdings Inc.
With respect to the sale of unregistered securities referenced above, all
transactions were exempt from registration pursuant to Section 4(2) of the
Securities Act of 1933 (the "1933 Act"), and Regulation D promulgated under the
1933 Act. In each instance, the purchaser had access to sufficient information
regarding Paradigm Holdings so as to make an informed investment decision. More
specifically, Paradigm Holdings had a reasonable basis to believe that each
purchaser was an "accredited investor" as defined in Regulation D of the 1933
Act and otherwise had the requisite sophistication to make an investment in
Paradigm Holdings' common stock.
14
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data set forth below have been derived from
our audited consolidated financial statements as of and for the years ended
December 31, 2004, 2003 and 2002. These results are not necessarily indicative
of the results that may be expected for any future period. You should read the
selected consolidated financial data presented below in conjunction with Item 7.
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," Item 1. "Business" and our consolidated financial statements and
the related notes thereto appearing elsewhere in this filing.
Year ended December 31,
(in thousands, except per share data) 2004 2003 2002
-------- -------- --------
Statements of operations data:
Contract revenues ...................................... $ 61,756 $ 51,206 $ 37,673
Costs of revenues ...................................... 46,673 38,750 28,241
-------- -------- --------
Gross margin ........................................... 15,083 12,456 9,432
Indirect costs ......................................... 16,866 12,010 7,068
-------- -------- --------
Income (loss) from operations .......................... (1,783) 445 2,363
Total other (expense) income ........................... (49) 21 32
-------- -------- --------
Net income (loss) before income taxes .................. (1,833) 467 2,395
Provision for income taxes ............................. 1,934 35 8
-------- -------- --------
Net income (loss) ...................................... (3,767) 432 2,388
Basic and diluted net income (loss) per common share $ (0.21) $ 0.03 $ 0.14
Basic and diluted weighted average common share used
to compute net income (loss) per share ................. 17,897 17,500 17,500
OTHER DATA:
Cash flow from (used in) operating
activities ............................................. $ (117) $ (1,623) $ (74)
Cash flow used in investing activities ................. (292) (995) (89)
Cash flow from (used in) financing activities .......... 570 2,006 742
Capital expenditures ................................... (292) (1,043) (108)
Balance sheet data (as of December 31):
Current assets ......................................... $ 16,604 $ 17,291 $ 10,547
Current liabilities .................................... 13,832 12,141 5,053
Total Stockholders' equity ............................. 2,356 6,127 5,695
PRO FORMA FINANCIAL DATA:
The unaudited pro forma information for the periods set forth below is based on
the operations of Paradigm Solutions Corporation and is prepared as if the
Corporation had been a C Corporation at the beginning of each period assuming a
tax provision of 38.6%.
2004 2003 2002
STATEMENT OF OPERATION DATA: (Pro forma) (Pro forma) (Pro forma)
(in thousands, except per share data)
Contract revenue 61,756 51,206 37,673
Net income (loss) before income taxes (1,833) 467 2,395
Income tax provision (benefit) (707) 180 925
Net income (loss) (1,125) 287 1,471
Basic and diluted net income (loss) per common share $ (0.06) $ 0.02 $ 0.08
Weighted average common shares outstanding 17,897,000 17,897,000 17,897,000
15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
You should read the following discussion in conjunction with Item 6. "Selected
Consolidated Financial Data" and our consolidated financial statements and
related notes included elsewhere in this filing. Some of the statements in the
following discussion are forward-looking statements. See "Forward-Looking
Statements."
General
Paradigm Holdings Inc. is an information technology and business solutions
provider specializing in information technology infrastructure and software
engineering support services, business continuity planning and emergency
management services and software to government and commercial clients. Paradigm
Holdings, Inc. is comprised of two operating subsidiaries, Paradigm Solutions
Corporation and Paradigm Solutions International.
Paradigm Solutions Corporation is the federal subsidiary whose core competencies
are in mission critical systems that focus on key federal agencies such as
Justice, Treasury and Homeland Security. Paradigm Solutions International is the
newly formed commercial subsidiary whose core competencies are developing and
delivering continuity and information technology security/risk management
consulting for both commercial businesses and government agencies. Our
innovations in business continuity development, planning, and information
technology security have positioned us to become the leader in the fragmented
Business Continuity and Continuity of Operations industry.
We derive substantially all of our revenues from fees for information technology
solutions and services. We generate these fees from contracts with various
payment arrangements, including time and materials contracts, fixed-price
contracts and cost-reimbursable contracts. We typically issue invoices monthly
to manage outstanding accounts receivable balances. We recognize revenues on
time and materials contracts as the services are provided. We recognize revenues
on fixed-price contracts using the percentage of completion method as services
are performed over the life of the contract, based on the costs we incur in
relation to the total estimated costs. We recognize and make provisions for any
anticipated contract losses at the time we know and can estimate them.
Fixed-price contracts are attractive to clients and, while subject to increased
risks, provide opportunities for increased margins. We recognize revenues on
cost-reimbursable contracts as services are provided. These revenues are equal
to the costs incurred in providing these services plus a proportionate amount of
the fee earned. We have historically recovered all of our costs on
cost-reimbursable contracts, which means we have lower risk and our margins are
lower on these contracts. At the end of December 31, 2004, our business
comprised of 52% fixed price, 29% time and material, and 19% cost-reimbursable
contracts.
Our historical revenue growth is attributable to various factors, including an
increase in the size and number of projects for existing and new clients. At the
end of December 31, 2004, contracts with the federal government and contracts
with prime contractors of the federal government accounted for approximately 95%
of our revenues. During that same period, our five largest clients, all agencies
of the federal government, generated approximately 93% of our revenues. In most
of these engagements, we retain full responsibility for the end-client
relationship and direct and manage the activities of our contract staff.
Our most significant expense is direct costs, which consist primarily of project
personnel salaries, consultants, subcontractors and direct expenses incurred to
complete projects. The number of consulting employees assigned to a project will
vary according to the size, complexity, duration and demands of the project.
Indirect costs include fringe benefit expenses, overhead expenses and SG&A
expenses consisting primarily of costs associated with our executive management,
finance and administrative groups, human resources, marketing and business
development resources, employee training, occupancy costs, R&D expenses,
depreciation and amortization, travel, and all other overhead and corporate
costs.
Other income consists primarily of interest income earned on our cash, cash
equivalents and marketable securities.
DESCRIPTION OF CRITICAL ACCOUNTING POLICIES
Management's Discussion and Analysis of Financial Condition and Results of
Operations discuss our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these consolidated financial
statements requires management to make estimates and judgments that affect the
reported amount of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the consolidated financial statements and
the reported amounts of revenues and expenses during the reporting period. On an
ongoing basis, management evaluates its estimates including those related to
uncollected accounts receivable, contingent liabilities, revenue recognition,
and other intangible assets. Management bases its estimates on historical
experience and on various other factors that are believed to be reasonable at
the time the estimates are made. Actual results may differ from these estimates
under different assumptions or conditions. Management believes that our critical
accounting policies which require more significant judgments and estimates in
the preparation of our consolidated financial statements are revenue
recognition, costs of revenues, accounts receivables and property and equipment.
REVENUE RECOGNITION
Services are performed under contracts that may be categorized into three
primary types: time and materials, cost-plus reimbursement and firm fixed price.
Revenue for time and materials contracts is recognized as labor is incurred at
fixed hourly rates, which are negotiated with the customer, plus the cost of any
allowable material costs and out-of-pocket expenses. Time and materials
contracts are typically more profitable than cost-plus contracts because of our
ability to negotiate rates and manage costs on those contracts. Revenue is
recognized under cost-plus contracts on the basis of direct and indirect costs
incurred plus a negotiated profit calculated as a percentage of costs or as
performance-based award fee. Cost-plus type contracts provide relatively less
risk than other contract types because we are reimbursed for all direct costs
and certain indirect costs, such as overhead and general and administrative
expenses, and are paid a fee for work performed. For certain cost plus type
contracts, which are referred to as cost-plus award fee type contracts, we
recognize the expected fee to be awarded by the customer at the time such fee
can be reasonably estimated, based on factors such as our prior award
experience, communications with the customer regarding our performance,
including any interim performance evaluations rendered by the customer or our
average historical award fee rate for the company. The Company has two basic
categories of fixed price contract; fixed unit price; fixed price-level of
effort. Revenues on fixed unit price contracts, where specific units of output
under service agreements are delivered, is recognized as units are delivered
based on the specific price per unit. Revenue on fixed price maintenance
contracts is recognized on a pro-rata basis over the length of the service
period. Revenue for the fixed price level of effort contacts is recognized based
upon the number of units of labor actually delivered multiplied by the agreed
rate for each unit of labor.
Contract revenue recognition inherently involves estimation. Examples of such
estimates include the level of effort needed to accomplish the tasks under the
contract, the cost of those efforts, and a continual assessment of our progress
toward the completion of the contract. From time to time, circumstances may
arise which require us to revise our estimated total revenue or costs.
Typically, these revisions relate to contractual changes. To the extent that a
revised estimate affects contract revenue or profit previously recognized, we
record the cumulative effect of the revision in the period in which it becomes
known. In addition, the full amount of an anticipated loss on any type of
contract is recognized in the period in which it becomes known. We may be
exposed to variations in profitability if we encounter variances from estimated
fees earned under award fee contracts and estimated costs under fixed price
contracts.
COSTS OF REVENUES
Our costs are categorized as either direct or indirect costs. Direct costs are
those that can be identified with and allocated to specific contracts and tasks.
They include labor, subcontractor costs, consultant fees, travel expenses and
materials. Indirect costs are either overhead or general and administrative
expenses and also include fringe (vacation time, medical/dental, 401K plan
matching contribution, tuition assistance, employee welfare, worker's
compensation and other benefits) associated with direct and indirect labor.
Indirect costs cannot be identified with specific contracts or tasks, and to the
extent that they are allowable, they are allocated to contracts and tasks using
appropriate government-approved methodologies. Costs determined to be
unallowable under the Federal Acquisition Regulations cannot be allocated to
projects. Our principal unallowable costs are interest expense and certain
general and administrative expenses. A key element to be successful in our
business is our ability to control indirect and unallowable costs, enabling us
to profitably execute our existing contracts and successfully bid for new
contracts. Costs of revenues are considered to be a critical accounting policy
because of the direct relationship to revenue recognized.
ACCOUNTS RECEIVABLE
Accounts receivable are attributable to trade receivables in the ordinary course
of business. We maintain reserves for uncollectible accounts receivable which
may arise in the normal course of business. Historically, we have not had
significant write-offs of uncollectible accounts receivable. However, we do
perform work on many contracts and task orders, where on occasion issues may
arise, which would lead to accounts receivable not being fully collected.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at the original cost to the corporation and
are depreciated using straight-line methods over established useful lives of
three to seven years. Software is recorded at original cost and depreciated on
the straight-line basis over three years. Leasehold improvements are recorded at
the original cost and are depreciated on the straight-line over the life of the
lease.
16
Results of Operations
The following table sets forth the relative percentages that certain items of
expense and earnings bear to revenue.
Consolidated Statement of Operations
Years Ended December 31, 2004, 2003 and 2002
(Dollars in thousands except for the percentages)
Year-to-Year Change
Year FY04 to FY03 FY03 to FY02
------------------ ------------------
FY04 FY03 FY02 $ % $ %
------- ------- ------- ------- ------- ------- -------
Revenue 61,756 51,206 37,673 10,550 20.6% 13,533 35.9%
Cost of Revenue 46,673 38,750 28,241 7,923 20.4% 10,509 37.2%
Gross Margin 15,083 12,456 9,432 2,627 21.1% 3,024 32.1%
Indirect Costs 16,866 12,010 7,068 4,856 40.4% 4,942 69.9%
Income (loss) from Operations (1,783) 445 2,363 (2,228) -500.9% (1,918) -81.2%
Total other (expense) income (49) 21 32 (71) -330.4% (11) -33.1%
Provision for Income Taxes 1,934 35 8 1,899 5426.6% 27 337.5%
Net Income (3,767) 432 2,388 (4,199) -971.7% (1,956) -81.9%
The table below sets forth, for the periods indicated, the service mix in
revenue with related percentages of total revenue and the year-to-year change in
dollars and percent.
Year-to-Year Change
Year - % of Total FY04 to FY03 FY03 to FY02
--------------- ---------------
(Dollars in Thousands) 2004 % 2003 % 2002 % $ % $ %
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Federal Service Contracts 41,901 67.8% 36,082 70.5% 26,657 70.8% 5,819 16.1% 9,425 35.4%
Federal Repair
& Maintenance Contracts 19,796 32.1% 15,115 29.5% 11,016 29.2% 4,681 31.0% 4,099 37.2%
Commercial Service Contracts 59 0.1% 9 0.0% -- 0.0% 50 555.6% 9
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Total Revenue 61,756 100.0% 51,206 100.0% 37,673 100.0% 10,550 20.6% 13,533 35.9%
Year Ended December 31, 2004 Compared with Year Ended December 31, 2003
Revenue. Revenue increased 20.6% to $61.8 million for 2004 from $51.2 million
for 2003. The 16.1% increase in federal services revenue of $5.8 million was
driven by organic growth with our existing customer base plus a full year of
revenue on a four year Housing and Urban Development Community Planning and
Development (HUD-CPD) contract awarded in March of 2003. This contract
contributed to $4.3 million of the $5.8 million growth in federal service
contract revenue. The 31% increase in federal repair and maintenance contracts
was a result of organic growth with our Department of Treasury customer which
also included a full year of revenue on a five year printer maintenance contract
with the IRS that was awarded in July of 2003. The entire growth of commercial
revenue came from the launching of our business continuity services that
resulted in new business awards with Greenhill and Aventis.
Cost of Revenue. Cost of revenue increased 20.4% to $46.7 million for 2004 from
$38.8 million for 2003. The increase was due primarily to an increase in
hardware and software delivered to our Department of Treasury customer, which
was $5.5 million of the $7.9 million increase. $1.7 million of the remaining
$2.4 million increase was a result of the increase in federal project personnel
to 255 as of December 31, 2004, as compared to 237 as of December 31, 2003. The
remaining $.7 million increase was a result of other direct costs associated
with our increased revenues.
Gross Margin. Gross margin increased 21.1% to $15.1 million for 2004 from $12.5
million in 2003. This $2.6 million in growth is associated with $10.6 million
growth in revenue. Gross margin as a percentage of revenues increased slightly
17
by 1% from 24.4% in 2004 from 24.3% in 2003. This slight growth in gross margin
was driven primarily by operational cost efficiencies and a favorable mix of
business.
Indirect Costs. Indirect expenses increased 40.4% to $16.9 million in 2004 from
$12.0 million for 2003. These expenses grew at a rate more than the growth rate
in revenue and cost of revenue mainly due to the investments made in launching
our commercial continuity business of $2.9 million in 2004 compared to $1.4
million in 2003. Expenses associated with going public in November of 2004 of
$.8 million also contributed to the increase in indirect costs. Our total sales
and general and administrative headcount increased to 38 employees as of
December 31, 2004 compared to 32 employees as of December 31, 2003 which
increased our indirect costs by $1.5 million compared to 2003. Facilities costs
also increased for 2004 by $.2 million due to the expansion of our new
headquarters office in Rockville, Maryland. The remaining $.7 million of
increased in indirect expenses compared to 2003 was a result of incremental
internal and external federal business development and bid and proposal
expenses.
Provision for Income Taxes. The provision for income tax was $1.9 million in
fiscal 2004, compared to a provision $35 thousand for the comparable period in
2003. The major factor that increased income tax expense was attributible to
revocation of S-Corporation election of $2.6 million.
Net Income. Net income as reported in the pro-forma table in the selected
financial data section, decreased from a loss of $1.1 million for 2004 from
income of $.3 million in 2003. This decrease was associated with the incremental
indirect costs discussed above.
Year Ended December 31, 2003 Compared with Year Ended December 31, 2002
Revenue. Revenues increased 35.9% to $51.2 million for 2003 from $37.7 million
for 2002. The $13.5 million increase in revenue primarily reflects an increase
in organic growth with our existing clients which included $3 million with the
Department of Treasury and $4 million with the Department of Justice. We define
organic growth as the increase in revenues excluding the revenues associated
with acquisitions, divestitures and closures of businesses in comparable
periods. Two new contract awards also attributed to the increase in revenue in
2004 which included a four year Housing and Urban Development Community Planning
and Development (HUD-CPD) contract awarded in March of 2003 which attributed $6
million and a five year printer maintenance contract with the IRS that was
awarded in July of 2003 which attributed $.5 million.
Cost of Revenue. Cost of revenue increased 37.2% to $38.8 million for 2003 from
$28.2 million for 2002. The increase in costs of revenues was due in part to the
corresponding growth in revenues resulting from organic growth and the increase
in employee headcount. The majority of the increase in costs of revenues for the
year ended December 31, 2004 was due to increases of $6.1 million and $4.5
million in direct labor and other direct contract costs, respectively. Project
personnel headcount grew to 237 as of December 31, 2003, as compared to 174 as
of December 31, 2002.
Gross Margin. Gross margin increased 32.1% to $12.5 million for 2003 from $9.4
million in 2002. Gross margin as a percentage of revenues decreased by .7% from
24.3% in 2003 from 25.0% in 2002. This was a result of a higher mix of material
(hardware and software) revenue versus labor related revenue which generates
lower overall gross margin.
Indirect Costs. Indirect expenses increased 69.9% to $12.0 million in 2003 from
$7.1 million for 2002. These expenses grew at a rate more than the growth rate
in revenue and cost of revenue mainly due to the investment made in starting up
the commercial business continuity of $1.4 million. Other investments made in
2003 that contributed to the increase in indirect expenses included the start-up
and transition costs associated with the new HUD-CPD and IRS Print maintenance
contracts of $1.2 million, infrastructure investments and the start-up costs
associated with of our innovation center of $.2 million. Our total sales and
general and administrative headcount increased to 33 employees as of December
31, 2003 compared to 27 employees as of December 31, 2002. This attributed to
$.5 million of the increase in 2003. Facilities costs also increased for 2003
due to the opening of our new headquarters office in Rockville, Maryland and our
new customer site location in Washington, DC. This attributed to $.2 million of
the increase in 2003. The remaining $1.2 million of increased indirect expenses
relates to bonuses made to management.
Net Income. Net income as reported in the pro-forma table in the selected
financial data section decreased to $.3 million for 2003 from $1.5 million for
2002. The decrease was attributable to the investments made in the business plus
the incremental indirect costs as discussed above. This was offset by the
incremental gross margin of $3.1 million.
18
Liquidity and Capital Resources
In 2004, we funded working capital requirements, our investment in business
continuity, and the expense of going public primarily through internally
generated operating cash flow and funds borrowed under our existing credit
facility.
For the year ended December 31, 2004, the corporation generated an increase in
net cash flow of $161 thousand whereas, the prior year ended with a net decrease
in cash flow $613 thousand. The main contributing factor was an overall
reduction of accounts receivable, as well as an increase in accounts payable and
accrued expenses. The corporation's accounts receivable decreased $3.0 million
to $11.5 million for the year ended December 31, 2004, as compared to an
increase of $6.0 million for the year ended December 31, 2003 primarily as a
result of improved collections. Accounts receivable at the end of 2004
represented 64.9% of total assets, compared to 78.9% at the end of 2003.
Effective November 5, 2004, PSC revoked its S-Corporation status. At that date,
the Corporation had net income which has been recognized for reporting purposes,
but not for income tax purposes of approximately $6.6 million. This net deferred
income will be recognized for income tax purposes equally over four years
beginning with the year ending December 31, 2004. The revocation of the
S-Corporation status resulted in a deferred income tax liability that was
recorded on the date of revocation of approximately $2.6 million. Net income for
the year ending December 31, 2004 and retained earnings were reduced by this
amount.
For the year ended December 31, 2004, net cash used from operations was $117
thousand, which consisted primarily of the use of accounts receivable
collections and an increase in deferred income tax off-set by the net loss, as
well as an increase in prepaid expenses.
Cash used for investing was $292 thousand during 2004 and $995 thousand in 2003,
which was attributable to the purchase of property and equipment to support
operations. Equipment acquisition during 2003 were significantly higher than
2004, as a result of capital investments made by the corporation relating to the
start-up of the HUD-CPD and IRS printer maintenance contracts, technology
refresh of computers, build-out of our internal innovation center at our
headquarter location, and the investment associated with a web-based
time-keeping system.
Cash provided by financing was $570 thousand for the year ended December 31,
2004, compared to $2.0 million as of December 31, 2003, which were comprised of
transactions under the corporations exiting line of credit and banking activity
with SunTrust Bank.
The Corporation has a line of credit arrangement with SunTrust Bank which
expires on June 30, 2005. Under the agreement the line is due on demand and
interest is payable monthly depending on the Corporation's leverage ratio at the
LIBOR rate plus the applicable spread which ranges from 1.95% to 3.50%. The
weighted average interest rates incurred for the years ended December 31, 2004
and 2003 were 3.69% and 3.51%, respectively. The line of credit is secured by
substantially all of the assets of the Corporation. Under the terms of the
agreement, the Corporation may borrow up to the lesser of $5,000,000 or 85% of
eligible Government receivables plus 75% of eligible commercial receivables. The
maximum amount available under the line of credit at December 31, 2004 and 2003
was $5,000,000 and $3,000,000, respectively.
The line of credit agreement contains certain financial covenants, including
minimum quarterly net income, minimum tangible net worth ratio and a debt
coverage ratio, with which the corporation was in compliance at December 31,
2003. At December 31, 2004 the Corporation was not in compliance with the
financial covenants and subsequent to year end received a waiver of those
covenants from the bank.
We intend to, and expect over the next twelve months to be able to, fund our
operating cash, capital expenditure and debt service requirements through cash
flow from operations and borrowings under our Credit Facility. Over the longer
term, our ability to generate sufficient cash flow from operations to make
scheduled payments on our debt obligations will depend on our future financial
performance, which will be affected by a range of economic, competitive and
business factors, many of which are outside our control.
The following summarizes our obligations associated with leases and other
commitments at December 31, 2004, and the effect such obligations are expected
to have on our liquidity and cash flow in future periods:
(Amounts in Thousands) Less than One to Three to More than
Total One Year Three Years Five Years Five Years
---------- ---------- ----------- ---------- ----------
Contractual Obligations:
Operating Leases $3,975,941 $ 927,804 $1,474,364 $ 905,445 $ 668,328
Notes Payable - Line of Credit $3,220,072 $3,220,072 $ 0 $ 0 $ 0
---------- ---------- ---------- ---------- ----------
Total $7,196,013 $4,147,876 $1,474,364 $ 905,445 $ 668,328
19
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk relates to change in interest rates for borrowing
under our revolving credit facility. These borrowings bear interest at a fixed
rate plus LIBOR , a variable rate. We do not use derivative financial
instruments for speculative or trading purposes. We invest our excess cash in
short - term, investment grade, interest -bearing securities.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTATRY DATA
Our consolidated financial statements are provided in Part IV, Item 15 of this
filing.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
The only material change that occured was in the change in independent
accountants as filed on Form 8-K dated March 30, 2005.
ITEM 9A. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, an evaluation was carried
out under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the Company's disclosure controls and procedures (as defined in
Rule 13a-15(e) under the Exchange Act). Based upon that evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded that, as of
December 31, 2004, these disclosure controls and procedures were effective. No
material changes occurred in our internal controls over financial reporting (as
defined in Rule 13a under the Exchange Act) or in other factors that could
significantly affect these controls subsequent to the date of their evaluation.
20
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
The following table sets forth information with respect to the directors and
executive officers of the Company.
Name Age Position with the Company
---- --- -------------------------
Raymond A. Huger 58 Chief Executive Officer and Chairman of the Board of Directors
Frank J. Jakovac 55 President and Chief Operating Officer
Mark A. Serway 43 Senior Vice-President and Chief Financial Officer
Francis X. Ryan 53 Director
John A. Moore 52 Director
Edwin M. Avery 57 Director
Raymond A. Huger, Chief Executive Officer Chairman of the Board - Ray has more
than 30 years of experience in business management, information technology, and
sales/marketing and technical support services. He established Paradigm
Solutions in 1991 following a very successful 25-year career with IBM, beginning
as a Field Engineer and holding a variety of challenging technical support,
sales/marketing and executive management positions. Prior to his early
retirement from IBM, he was a Regional Manager, responsible for the successful
operations of several IBM Branch offices that generated over $500 million
dollars in annual revenue. His experience and understanding of technology
allowed him to develop a solid business value propositions for Paradigm
Solutions and its Paradigm Solutions International Division. Ray has a
Bachelor's Degree (BA) from Bernard Baruch College and a Master's Degree (MBA)
from Fordham University.
Mr. Huger's Prior
Five Year History: 2004 - Present, Chairman & CEO, Paradigm Holdings, Inc.
1991 - 2004, President & CEO, Paradigm Solutions Corp.
Frank J. Jakovac, President and Chief Operating Officer - Frank has over 25
years experience leading organizations through every phase of their lifecycle:
from start-up to change and revitalization, to turnaround and accelerated
growth. His background includes cross-functional expertise and experience in
areas including business development, leadership, management, corporate
governance, and regulatory issues. Jakovac built a highly successful
entrepreneurial venture from start-up to $300 million in only four years and
built another privately held venture from start-up to $100 million in assets
within five years. In addition, he has participated in successful mergers and
restructuring ventures and has nurtured working relationships with Fortune 500
CEOs, growth. His more recent successes include the founding of Adriatic
Ventures in 1998 (which commercialized and managed projects rangi-ng from
information technology to land development) and his tenure as president and CEO
of Avid Sportswear & Golf Corp., where he contributed to the organization's
turnaround and divestiture. Jakovac graduated with a Bachelor of Science from
Edinboro University and completed the Executive Extended Master Program in
Business Administration, University of Pittsburgh.
Mr. Jakovac's Prior
Five Year History: 2004 - Present, Chairman & COO, Paradigm Holdings, Inc.
1998 - 2001, President & CEO, Adriatic Ventures, Inc.
Mark A. Serway, Senior Vice President and Chief Financial Officer - Mark has
over 20 years of senior business and financial management experience in the
professional services and manufacturing marketplace with corporations in
Government and Commercial sectors having domestic and international operations.
He has extensive experience in business operations, strategic planning,
financial forecasting and reporting, M&A, pricing, cash management, contract
administration, purchasing, system evaluation and implementation. His experience
encompasses large, small and small disadvantaged 8(a) companies, as well as
public and private firms with annual revenues ranging from $50 million to $1
billion. Prior to joining Paradigm Solutions as the Chief Financial Officer,
Mark held senior level financial management positions with various public
companies including: Lockheed Martin Information Technology, Getronics
Government Solutions, Wang Global and McDermott International. Mark received his
MBA in Finance from Averett College and holds a B.B.A. in Management Information
Systems from James Madison University.
21
Mr. Serway's Prior
Five Year History: 2004 - Present, SVP & CFO, Paradigm Holdings, Inc.
2003 - 2004, VP & CFO, Paradigm Solutions Corporation
2002 - 2003, Director of Business Operations,
Lockheed Martin IT
1996 - 2001, Director of Business Management,
Wang Global
Francis X. Ryan, Board Member - Frank has over twenty years experience in
managing companies at the Executive level. Currently he is President, F. X. Ryan
& Assoc. Management Consulting firm specializing in turnarounds, workouts,
crisis management, strategic planning, and working capital management. He has
extensive experience in business process redesign. Prior to joining the Paradigm
Holdings Inc. board Frank was the Central Command Special Operations Officer for
Operation Enduring Freedom. He has also been assigned to SOCCENT and served in
Afghanistan. Frank is a highly regarded expert speaker in the fields of
Corporate Governance and Sarbanes-Oxley regulations. He has held positions as
Chief Operating Officer and Executive Vice President, and CFO for Manufacturers
and high technology companies. He currently serves as a board member for the
following organizations: St. Agnes Hospital, Baltimore, MD; Good Shepherd
Center, Baltimore, MD, and Fawn Industries. Frank received his M. B. A. Finance,
from the University of Maryland, and holds a B. S. Economics, Mt. St. Mary's
College. Frank is also holds a C. P. A. from the State of Pennsylvania.
Mr. Ryan's Prior
Five Year History: 1991 - Pesent, President, F.X. Ryan & Associates
John A. Moore, Board Member - John has more than 30 years experience in public
company management for information technology firms. From February 1982 to
December 2004, Mr. Moore1 held various positions at ManTech International
Company, including Executive Vice President (April 1997 to December 2004) and
Chief Financial Officer and Treasurer (February 1993 to June 2003). While at
ManTech International, Mr. Moore's responsibilities included corporate
compliance, strategic planning, proposal preparation and pricing, human
resources, legal, banking, SEC reporting and all accounting and finance
operations. Mr. Moore was directly involved with taking ManTech International
public in February 2002, as well as facilitating a secondary offering. Mr. Moore
has served on the Boards of Directors for ManTech International (MANT) and GSE
Systems Inc. (GVP). He is a current member of the Board of Visitors for the
University of Maryland's Smith School. Mr. Moore has an MBA from the University
of Maryland and a BS in accounting from LaSalle University.
Mr. Moore's Prior
Five Year History: 1994 - 2003, EVP & CFO, ManTech International
Corporation
Edwin M. (Mac) Avery, Board Member - Mac has 30 years of diverse experience in
organizations through every lifecycle phase, including start-up, change and
revitalization, and turnaround and accelerated growth. From May 2004 to the
present, Mac serves as Manager, US Operations for Jed Oil in Calgary, Alberta.
Mac's background includes expertise in business development, finance, capital
management, and regulatory issues. From August 2002 to May 2004, Mac served as
the Assistant to the Vice Chancellor at the University of Colorado at Boulder,
Colorado, a comprehensive research university and residential campus with over
28,000 undergraduate and graduate students. Mac co-developed a Washington,
D.C.-based lobby support initiative for federal, agency and university
relations. From October 1999 to November 2001, Mac founded and served as
Corporate Development Officer of TangibleData, Inc., a publicly traded company
focusing on online, on-demand, custom-labeled duplication and distribution of
Internet uploaded data on CD's. From June 1991 to October 1999, Mac served as
the Managing Partner of Avery & Company, a client services firm specializing in
project design, management, funding, mergers and acquisitions for the energy and
technology industries. Mac has served as a director of TangibleData, Inc.,
Duplication Technology, Inc., Pioneer Resources, Inc. and Lincoln Investment
Corporation.
Mr. Avery's Prior
Five Year History: 2002 - 2004, Assistant to the Vice Chancellor,
University of Colorado
1999 - 2001, Corporate Development Officer,
TangibleData, Inc.
1991 - 1999, Managing Partner, Avery & Company
Family Relationships
There is no family relationship between any of our officers or directors.
Code of Ethics
We adopted a Code of Ethics applicable to our entire executive team, which is a
"code of ethics" as defined by applicable rules of the SEC. Our Code of Ethics
was filed as an Exhibit to the Form SB-2 dated February 11, 2005. If we make any
amendments to our Code of Ethics other than technical, administrative, or other
non-substantive amendments, or grant any waivers, including implicit waivers,
from a provision of our Code of Ethics to our chief executive officer, chief
financial officer, or certain other finance executives, we will disclose the
nature of the amendment or waiver, its effective date and to whom it applies in
a Current Report on Form 8-K filed with the SEC.
22
Compliance With Section 16(a) Of The Securities Exchange Act
Section 16(a) of the Exchange Act requires our executive officers and directors,
and persons who beneficially own more than ten percent of our equity securities,
to file reports of ownership and changes in ownership with the Securities and
Exchange Commission. Officers, directors and greater than ten percent
shareholders are required by SEC regulation to furnish us with copies of all
Section 16(a) forms they file. Currently, Form 3's have not been filed by
Messrs. Huger, Jakovac, Ryan, Serway, Moore and/or Avery. Messrs. Huger,
Jakovac, Ryan, Serway, Moore and Avery intend to file their respective Form 3's
shortly.
ITEM 11. EXECUTIVE COMPENSATION
The following table shows all the cash compensation paid by Paradigm Holdings,
as well as certain other compensation paid or accrued, during the fiscal years
ended December 31, 2004, 2003 and 2002 to Paradigm Holdings' named executive
officers. No restricted stock awards, long-term incentive plan payouts or other
types of compensation, other than the compensation identified in the chart
below, were paid to these executive officers during these fiscal years.
SUMMARY COMPENSATION TABLE
Annual Compensation Long Term Compensaion
---------------------------------------------------------------------------------
Restricted Options/ LTIP All Other
Other Annual Stock Revenue payouts Compen-
Name Title Year Salary Bonus Compensation Awarded SARs (#) ($) sation
- ----------------------------------------------------------------------------------------------------------------------------------
Raymond A. Huger (1) Chief Executive Officer 2004 384,243 231,679 --
and Chairman of 2003 404,641 405,476 --
the Board of Directors 2002 352,087 345,093 --
Frank J. Jakovac (2) President, 2004 181,365 70,417 --
Chief Operating 2003
Officer and Director 2002
Mark A. Serway (3) Senior Vice President, 2004 196,150 39,700 --
Chief Financial Officer 2003 43,578 5,600
and Director 2002
Harry M. Kaneshiro Executive Vice President, 2004 403,367 181,995 --
Paradigm Solutions Corp. 2003 500,913 309,589 --
2002 422,764 270,090 --
Samar Ghadry Senior Vice President, 2004 497,929 104,693 --
Paradigm Solutions Corp. 2003 672,933 136,802 --
2002 571,123 119,037 --
(2) Frank Jakovac was hired on May 11, 2004
(3) Mark Serway was hired on July 28, 2003
The following table contains information regarding options granted during the
year ended December 31, 2004 to Paradigm Holdings' named executive officer.
23
OPTION/SAR GRANTS TABLE
No. of % Total Options/SARs
Securities Granted to Employees
Underlying in year ended
Options/SARs December 31 Exercise or
Granted 2004 Base Price Expiration
Name Title (#) (%) ($ per Share) Date
- --------------------------------------------------------------------------------------------------------------------------
Raymond A. Huger (1) Chief Executive Officer
and Chairman of
the Board of Directors n/a
Frank J. Jakovac (2) President, n/a
Chief Operating Officer and
Director
Mark A. Serway (3) Senior Vice President, n/a
Chief Financial Officer
and Director
Harry M. Kaneshiro Executive Vice President n/a
Paradigm Solutions Corp.
Samar Ghardry Senior Vice President n/a
Paradigm Solutions Corp.
The following table contains information regarding options exercised in the year
ended December 31, 2004, and the number of shares of common stock underlying
options held as of December 31, 2004, by Paradigm Holdings' named executive
officer.
AGGREGATED OPTIONS/SAR EXERCISES
IN LAST FISCAL YEAR AND
FISCAL YEAR END OPTIONS/SAR VALUES
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money
Shares Options/SARs Options/SARs
Acquired on Value at FY-End at FY-End
Exercise Realized (#) ($)
Name Title (#) ($) Exercisable Unexcersiable Exercisable Unexercsiable
- -----------------------------------------------------------------------------------------------------------------------------
Raymond A. Huger (1) Chief Executive
Officer and Chairman of
the Board of Directors
Frank J. Jakovac (2) President, n/a
Chief Operating
Officer and Director
Mark A. Serway (3) Senior Vice President, n/a
Chief Financial Officer
and Director
Harry M. Kaneshiro Executive
Vice President n/a
Paradigm Solutions Corp.
Samar Ghardry Senior Vice President n/a
Paradigm Solutions Corp.
Compensation of Directors
Non-employee directors receive a fee of $1,500 per meeting and receive
reimbursement for out-of-pocket expenses incurred for attendance at meetings of
the Board of Directors. Board members who are in charge of the audit and
compensation committee receive $2,000 and receive reimbursement for
out-of-pocket expenses incurred for attendance at meetings of the Board of
Directors and Board committee meetings.
24
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information about the beneficial ownership of our
common stock as of January 24, 2005 by (i) each person who we know is the
beneficial owner of more than 5% of the outstanding shares of common stock (ii)
each of our directors or those nominated to be directors, and executive
officers, and (iii) all of our directors and executive officers as a group.
Amount and Nature
Name and Address of Beneficial Percentage
Title of Class of Beneficial Owner (1) Ownership of Common Stock (2)
- -------------- ----------------------- --------- -------------------
Common Stock Raymond Huger 12,775,000 63.87%
Common Stock Frank Jakovac 0 0%
Common Stock Mark Serway 0 0%
Common Stock Francis Ryan 0 0%
Common Stock John Moore 0 0%
Common Stock Edwin Avery 0 0%
Common Stock Harry Kaneshiro 3,150,000 15.75%
Common Stock Samar Ghadry 1,575,000 7.87%
--------- ------
All Directors and Executive
Officers as a Group 17,500,000 87.49%
Common Stock J.P. Consulting 1,054,411 5.27%
6590 East Lake Place
Centenial, CO 80111
- ---------------
(1) Unless otherwise indicated, the address of each person listed above is the
address of the Company, 2600 Tower Oaks Bvld, Suite 500, Rockville,
Maryland, 20852.
(2) Applicable percentage of ownership is based on 20,003,368 shares of common
stock outstanding as of March 29, 2005 together with securities exercisable or
convertible into shares of common stock within 60 days of March 29, 2005 for
each stockholder. Beneficial ownership is determined in accordance with the
rules of the SEC and generally includes voting or investment power with respect
to securities. Shares of common stock subject to securities exercisable or
convertible into shares of common stock that are currently exercisable or
exercisable within 60 days of March 29, 2005 are deemed to be beneficially owned
by the person holding such options for the purpose of computing the percentage
of ownership of such person, but are not treated as outstanding for the purpose
of computing the percentage ownership of any other person.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
None.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
AUDIT AND NON-AUDIT FEES
The following table presents fees for professional services rendered by
Aronson & Company for the fiscal year ended December 31, 2004 and December 31,
2003.
YEARS ENDED DECEMBER 31,
2004 2003
--------- ---------
Audit fees: $ 43,645 $ 17,250
Audit related fees: 21,468 14,925
Tax fees: 9,832 425
All other fees: -- --
Total $ 74,945 $ 39,445
POLICY ON AUDIT COMMITTEE PRE-APPROVAL OF AUDIT AND PERMISSIBLE NON-AUDIT
SERVICES OF INDEPENDENT AUDITOR
Prior to engagement of the independent auditor for the next year's audit,
management will submit an aggregate of services expected to be rendered during
that year for each of four categories of services to the Audit Committee for
approval. Consistent with SEC policies regarding auditor independence, the Audit
Committee has responsibility for appointing, setting compensation and overseeing
the work of the independent auditor. In recognition of this responsibility, the
Audit Committee will establish a policy in 2005 to pre-approve all audit and
permissible non-audit services provided by the independent auditor. The Audit
Committee will approve of all permissible non-audit services consistent with SEC
requirements.
1. Audit services include audit work performed in the preparation of
financial statements, as well as work that generally only the independent
auditor can reasonably be expected to provide, including comfort letters,
statutory audits, and attest services and consultation regarding financial
accounting and/or reporting standards.
2. Audit-Related services are for assurance and related services that are
traditionally performed by the independent auditor, including due diligence
related to mergers and acquisitions, employee benefit plan audits, and special
procedures required to meet certain regulatory requirements.
3. Tax services include all services performed by the independent
auditor's tax personnel except those services specifically related to the audit
of the financial statements, and includes fees in the areas of tax compliance,
tax planning, and tax advice.
4. Other Fees are those associated with services not captured in the
other categories.
Prior to future engagements, the Audit Committee will pre-approve these
services by category of service. During the year, circumstances may arise when
it may become necessary to engage the independent auditor for additional
services not contemplated in the original pre-approval. In those instances, the
Audit Committee requires specific pre-approval before engaging the independent
auditor. The Audit Committee may delegate pre-approval authority to one or more
of its members. The member to whom such authority is delegated must report, for
informational purposes only, any pre-approval decisions to the Audit Committee
at its next scheduled meeting.
25
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
FINANCIAL STATEMENTS
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
TABLE OF CONTENTS
Page
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUTING FIRM F-1
AUDITED FINANCIAL STATEMENTS
Consolidated Balance Sheets F-2 - F-3
Consolidated Statements of Operations F-4
Consolidated Statements of Stockholders' Equity F-5
Consolidated Statements of Cash Flows F-6
Notes to Consolidated Financial Statements F-7 - F-16
26
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
Rockville, Maryland
We have audited the accompanying Consolidated Balance Sheets of PARADIGM
HOLDINGS, INC. (FORMERLY PARADIGM SOLUTIONS CORPORATION) AND SUBSIDIARIES as of
December 31, 2004 and 2003, and the related Consolidated Statements of
Operations, Stockholders' Equity and Cash Flows for each of the three years in
the period ended December 31, 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of PARADIGM HOLDINGS,
INC. (FORMERLY PARADIGM SOLUTIONS CORPORATION) AND SUBSIDIARIES as of December
31, 2004 and 2003, and the results of their operations and their cash flows for
each of the three years in the period ended December 31, 2004 in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, the related financial statement schedules for each of the three
years in the period ended December 31, 2004, when considered in relation to the
basic financial statements taken as a whole, present fairly in all material
respects the information set forth therein.
/s/ Aronson & Company
Rockville, Maryland
February 11, 2005
F-1
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
CONSOLIDATED BALANCE SHEETS
December 31, 2004 2003
- -------------------------------------- ------------ ------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 179,389 $ 17,890
Accounts receivable - contracts 11,478,901 14,494,968
Inventory, net 616,020 540,005
Prepaid expenses 4,239,770 2,220,991
Other current assets 89,890 17,414
------------ ------------
TOTAL CURRENT ASSETS 16,603,970 17,291,268
------------ ------------
PROPERTY AND EQUIPMENT, AT COST
Furniture and fixtures 124,845 117,920
Software 221,965 82,051
Leasehold improvements 121,000 102,531
Equipment 1,043,725 916,922
------------ ------------
TOTAL PROPERTY AND EQUIPMENT 1,511,535 1,219,424
------------ ------------
Less: Accumulated depreciation (504,348) (204,690)
------------ ------------
NET PROPERTY AND EQUIPMENT 1,007,187 1,014,734
------------ ------------
OTHER ASSETS
Deposits 77,182 76,207
------------ ------------
TOTAL ASSETS $ 17,688,339 $ 18,382,209
============ ============
The accompanying Notes to Consolidated Financial Statements are an integral
part of these financial statements.
F-2
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
CONSOLIDATED BALANCE SHEETS
December 31, 2004 2003
- ----------------------------------------------------------------------------- ----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Bank overdraft $ 1,046,160 $ 695,980
Note payable - line of credit 3,220,072 3,000,000
Accounts payable and accrued expenses 5,476,967 4,514,721
Accrued salaries and related liabilities 1,812,545 1,601,297
Deferred income taxes 527,000
Deferred revenue 1,749,410 2,328,690
----------- -----------
TOTAL CURRENT LIABILITIES 13,832,154 12,140,688
----------- -----------
LONG-TERM LIABILITIES
Deferred rent 144,435 115,012
Deferred income taxes, net of current portion 1,356,000
----------- -----------
TOTAL LIABILITIES 15,332,589 12,255,700
----------- -----------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY (AS RESTATED, NOTE 11)
Common stock - $.01 par value, 50,000,000 shares authorized, 20,003,368 and
17,500,000 shares issued and outstanding as of 2004 and 2003, respectively 200,034 175,000
Retained earnings 2,155,716 5,951,509
----------- -----------
TOTAL STOCKHOLDERS' EQUITY 2,355,750 6,126,509
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $17,688,339 $18,382,209
----------- -----------
The accompanying Notes to Consolidated Financial Statements are an integral
part of these financial statements.
F-3
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31, 2004 2003 2002
- ---------------------------------------------------- ------------ ------------ ------------
Contract Revenue
Service contracts $ 41,959,912 $ 36,091,375 $ 26,656,972
Repair and maintenance contracts 19,796,389 15,114,617 11,016,120
------------ ------------ ------------
Total contract revenue 61,756,301 51,205,992 37,673,092
------------ ------------ ------------
Cost of revenue
Service contracts 28,000,237 26,282,131 19,189,806
Repair and maintenance contracts 18,672,946 12,468,283 9,051,552
------------ ------------ ------------
Total cost of revenue 46,673,183 38,750,414 28,241,358
------------ ------------ ------------
Gross margin 15,083,118 12,455,578 9,431,734
Indirect costs 16,866,248 12,010,104 7,068,265
------------ ------------ ------------
Income (loss) from operations (1,783,130) 445,474 2,363,469
------------ ------------ ------------
Other (expense) income
Interest income - stockholder 1,607 4,039
Interest income - other 12,529 20,085 30,665
Interest expense (61,920) (290) (2,741)
------------ ------------ ------------
Total other (expense) income (49,391) 21,402 31,963
------------ ------------ ------------
Net income (loss) before income taxes (1,832,521) $ 466,876 $ 2,395,432
------------ ------------ ------------
Provision for income taxes 1,934,380 35,125 7,529
------------ ------------ ------------
Net income (loss) $ (3,766,901) $ 431,751 $ 2,387,903
------------ ------------ ------------
Basic and diluted net income (loss) per common share $ (0.21) $ 0.03 $ 0.14
------------ ------------ ------------
Basic and diluted weighted average common shares used
to compute net income (loss) per share 17,896,709 17,500,000 17,500,000
------------ ------------ ------------
The accompanying Notes to Consolidated Financial Statements are an integral
part of these financial statements.
F-4
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Common Stock
-------------------------- Retained
Years Ended December 31, 2004, 2003, and 2002 Share Amount Earnings Total
- ----------------------------------------------- ----------- ----------- ----------- -----------
BALANCE, JANUARY 1, 2002 (AS RESTATED, NOTE 11) 17,500,000 $ 175,000 $ 3,131,855 $ 3,306,855
NET INCOME 2,387,903 2,387,903
----------- ----------- ----------- -----------
BALANCE, DECEMBER 31, 2002 17,500,000 175,000 5,519,758 5,694,758
NET INCOME 431,751 431,751
----------- ----------- ----------- -----------
BALANCE, DECEMBER 31, 2003 17,500,000 175,000 5,951,509 6,126,509
RECAPITALIZATION AND NET LIABILITIES ASSUMED AS
A RESULT OF REVERSE MERGER 2,503,368 25,034 (28,892) (3,858)
NET LOSS (3,766,901) (3,766,901)
----------- ----------- ----------- -----------
BALANCE, DECEMBER 31, 2004 20,003,368 $ 200,034 $ 2,155,716 $ 2,355,750
=========== =========== =========== ===========
The accompanying Notes to Consolidated Financial Statements are an integral
part of these financial statements.
F-5
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2004 2003 2002
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ (3,766,901) $ 431,751 $ 2,387,903
ADJUSTMENTS TO RECONCILE NET INCOME (LOSS) TO NET
CASH USED BY OPERATING ACTIVITIES:
Depreciation 299,658 159,292 48,001
Loss on disposal 24,315
(INCREASE) DECREASE IN
Accounts receivable - contracts 3,016,067 (5,983,859) (2,167,584)
Inventory, net (76,015) (540,005)
Prepaid expenses (2,018,779) (839,719) (640,356)
Other current assets (72,476) (14,724) (6,453)
Deposits (975) (57,139) (4,473)
(DECREASE) INCREASE IN
Accounts payable and accrued expenses 958,387 1,964,129 32,437
Accrued salaries and related liabilities 211,248 788,853 276,182
Deferred income taxes 1,883,000
Deferred revenue (579,280) 2,328,690
Deferred rent 29,423 115,012
------------ ------------ ------------
NET CASH USED BY OPERATING ACTIVITIES (116,643) (1,623,404) (74,343)
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (292,110) (1,042,859) (108,559)
Repayment of notes receivable - stockholder 0 47,510 19,453
------------ ------------ ------------
NET CASH USED BY INVESTING ACTIVITIES (292,110) (995,349) (89,106)
CASH FLOWS FROM FINANCING ACTIVITIES
Bank overdraft 350,180 (635,385) 913,142
Proceeds from line of credit 37,673,041 7,214,629 1,757,040
Payments on line of credit (37,452,969) (4,573,448) (1,928,186)
------------ ------------ ------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 570,252 2,005,796 741,996
------------ ------------ ------------
NET (DECREASE) INCREASE IN CASH 161,499 (612,957) 578,547
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 17,890 630,847 52,300
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 179,389 $ 17,890 $ 630,847
============ ============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for income taxes $ 747,486 $ 35,125 $ 7,529
============ ============ ============
Cash paid for interest $ 61,920 $ 290 $ 2,741
============ ============ ============
The accompanying Notes to Consolidated Financial Statements are an integral
part of these financial statements.
F-6
PARADIGM HOLDINGS, INC.
(FORMERLY PARADIGM SOLUTIONS CORPORATION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION
Paradigm Holdings, Inc. (PDHO), formerly Cheyenne Resources, Inc., was
incorporated in the state of Wyoming on November 17, 1970. On November 3, 2004,
Paradigm Holdings, Inc. entered into an Agreement and Plan of Reorganization
with Paradigm Solutions Merger Corp. (Merger Sub), Paradigm Solutions
Corporation (PSC), and the shareholders of PSC. Pursuant to the Agreement and
Plan of Reorganization, the Merger Sub was merged with and into PSC, which was
the surviving corporation, and became a wholly owned subsidiary of PDHO. In
consideration of the merger, the PSC shareholders exchanged 13,699, or 100%, of
their common stock for 17,500,000 shares of common stock of PDHO.
Although PDHO is the legal acquirer in the acquisition, and remains the
registrant with the SEC, under generally accepted accounting principles, the
acquisition was accounted for as a reverse acquisition, whereby PSC is
considered the "acquirer" of PDHO for financial reporting purposes. The
following factors were considered: 1) PSC's shareholders controlled more than
50% of the post acquisition combined entity, 2) management, after the
acquisition, is that of PSC, 3) PDHO had no assets and an immaterial amount of
liabilities as of the acquisition date, and 4) continuing operations of the
business are that of PSC.
Effective November 3, 2004, PDHO conducts business through its wholly owned
subsidiary Paradigm Solutions Corporation. On December 17, 2004, PSC formed a
wholly owned subsidiary, Paradigm Solutions International, Inc. (PSI). PSI had
no activity during 2004. The accompanying consolidated financial statements
include the accounts of PDHO, PSC and PSI (collectively, the Corporation). All
significant inter-company balances and transactions have been eliminated in
consolidation.
The Corporation is a full-service information technology (IT) and business
solutions provider offering a wide range of technical support and management
services to improve the operational efficiency of government and industry. The
Corporation graduated from the Small Business Administration's 8(a) Business
Development program on October 13, 2004. Today, the Corporation possesses a
portfolio of flexible contract vehicles arrangements to expedite delivery of
information technology services and solutions to clients across the federal
government.
USE OF ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS
For purposes of financial statement presentation, the Corporation considers all
highly liquid debt instruments with initial maturities of ninety days or less to
be cash equivalents. The Corporation maintains cash balances which may exceed
federally insured limits. Management does not believe that this results in any
significant credit risk.
FAIR VALUE OF FINANCIAL INSTRUMENTS
At December 31, 2004 and 2003, the carrying value of current financial
instruments such as cash, accounts receivable, accounts payable, and accrued
liabilities approximated their market values, based on the short-term maturities
of these instruments. Fair value is determined based on expected cash flows,
discounted at market rates, and other appropriate valuation methodologies.
F-7
REVENUE RECOGNITION
Revenue from time and materials contracts is recognized as costs are incurred at
amounts represented by the agreed-upon billing amounts.
Fixed price labor hour and level of effort contracts involving defined numbers
of hours or categories of personnel are accounted as costs are incurred at
amounts representing agreed-upon billing amounts. Fixed price maintenance
contracts are recognized as revenue on a pro-rata basis over the life of the
contract.
In certain arrangements, the Corporation enters into contracts that include the
delivery of a combination of two or more of its service offerings. Such
contracts are divided into separate units of accounting and revenue is
recognized separately, and in accordance with, the Corporation's revenue
recognition policy for each element.
Software revenue recognition is in accordance with AICPA Statement of Position
97-2. Revenue from the sale of licenses is recognized upon shipment when the
price is fixed and collection is probable. Software revenues are not significant
for any of the years presented.
Revenue from cost-type contracts is recognized as costs are incurred on the
basis of direct costs plus allowable indirect costs and an allocable portion of
the fixed fee.
Revenue recognized on contracts for which billings have not yet been presented
to customers is included in the Accounts Receivable - contracts classification
on the accompanying Balance Sheets.
Deferred revenue relates to contracts for which customers pay in advance for
services to be performed at a future date. The Corporation recognizes deferred
revenue over the related contract service periods, which run through 2005. These
payments are nonrefundable.
COST OF REVENUE
Cost of revenue for service contracts consist primarily of labor, consultant,
subcontract, and other costs attributable to the performance of the contract.
Cost of revenue for repair and maintenance contracts consist primarily of
subcontract, labor, and other costs attributable to the performance of the
contract.
MAJOR CUSTOMERS
During the years ended December 31, 2004, 2003 and 2002, the Corporation's
revenues generated from three major customers, totaled 84%, 92% and 76% of total
revenue, respectively. The Corporation's accounts receivable related to these
three major customers were 78%, 90 % and 80% of total accounts receivable at the
end of the respective years. The Company defines major customers by government
agency.
ACCOUNTS RECEIVABLE
Accounts receivable are attributable to trade receivables in the ordinary course
of business. Estimates relating to allowance for doubtful accounts are based on
historical experience, troubled account information and other available
information.
INVENTORY
Inventory consists of replacement printer parts and is stated at the lower of
cost or market using the fifo method.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at the original cost to the Corporation and
are depreciated using straight-line methods over established useful lives of
three to seven years. Software is recorded at original cost and depreciated on
the straight-line basis over three years. Leasehold improvements are recorded at
original cost and are depreciated on the straight-line basis over the life of
the lease.
F-8
ADVERTISING COSTS
Advertising costs are expensed as incurred. Expenses for fiscal years ending
December 31, 2004, 2003 and 2002 were immaterial.
SOFTWARE DEVELOPMENT COSTS
Software development costs are included in indirect costs and are expensed as
incurred. Statement of Financial Accounting Standards No. 86, "Accounting for
the Cost of Computer Software to be Sold, Leased or Otherwise Marketed" requires
the capitalization of certain software development costs once technological
feasibility is established, which the Corporation generally defines as
completion of a working model. Capitalization ceases when the products are
available for general release to customers, at which time amortization of the
capitalized costs begins on a straight-line basis over the estimated product
life, or on the ratio of current revenues to total projected product revenues,
whichever is greater. As of December 31, 2004, the Corporation had not
established technological feasibility for its software product, and therefore,
no costs have been capitalized.
All other research and development costs are expensed as incurred. For the years
ended December 31, 2004 and 2003 the Corporation's R&D expenses totaled
$1,078,058 and $559,073, respectively. The Corporation did not incur any R&D
expenses during the year ended December 31, 2002.
INCOME TAXES
Prior to November 5, 2004 the Paradigm Solutions Corporation was treated as an S
Corporation, and therefore, did not pay Federal and state corporate income taxes
since the tax attributes of the entity were reported on the stockholders' tax
returns. Paradigm Solutions Corporation filed its income tax returns on the cash
basis of accounting, whereby revenue was recognized when received and expenses
were recognized when paid.
Effective November 5, 2005, Paradigm Solutions Corporation revoked its
S-Corporation status and therefore is subject to income taxes at the corporate
level. At of the date of revocation, Paradigm Solutions Corporation recorded a
deferred income tax liability of approximately $2,576,000 which relates to the
timing differences between book basis and income tax basis at the date of the
revocation.
Deferred income taxes are recognized for the tax consequences in future years of
differences between the tax bases of assets and liabilities and their financial
reporting amounts at each year end based on enacted tax laws and statutory tax
rates applicable to the periods in which the differences are expected to affect
taxable earnings. Valuation allowances are established when necessary to reduce
deferred tax assets to the amount more likely than not to be realized.
NET INCOME PER SHARE
Basic net income per common share is calculated by dividing the net income by
the weighted average number of common shares outstanding during the period.
Diluted earnings per share is calculated using the weighted average number of
common shares plus dilutive common stock equivalents outstanding during the
period. Anti-dilutive common stock equivalents are excluded. There were no
dilutive common stock equivalents outstanding during the years ended December
31, 2004, 2003 and 2002.
RECLASSIFICATION
Certain 2003 and 2002 balances have been reclassified to conform with the 2004
presentation.
2. ACCOUNTS RECEIVABLE
The accounts receivable consist of billed and unbilled amounts under contracts
in progress with governmental units, principally the Bureau of Alcohol, Tobacco,
and Firearms, the Office of the Comptroller of the Currency, the U.S. Secret
Service, and the Internal Revenue Service. The components of accounts receivable
at December 31, 2004 and 2003 are:
2004 2003
--------------------------------
Billed receivables $ 6,821,859 $ 12,727,297
Unbilled receivables 4,657,042 1,767,671
----------------------------------------------------------------
TOTALS $ 11,478,901 $ 14,494,968
================================
F-9
All receivables are expected to be collected during the next fiscal year and are
pledged to the bank as collateral for the line of credit. The Corporation's
unbilled receivables are comprised of contract costs that cover the current
service period and are normally billed in the following month. The Corporation's
unbilled at December 31, 2004 does not contain retainage.
3. NOTES RECEIVABLE - STOCKHOLDER
Prior to 2003, the Corporation made advances to its majority stockholder under
two loan agreements. The stockholder loans were paid in full during the year
ended December 31, 2003. Interest income earned and received during 2003 and
2002 for the stockholder loans was $1,607 and $4,039, respectively.
4. INVENTORY
Inventory consists of the following at December 31:
2004 2003
----------- ----------
Inventory of replacement printer parts $ 683,026 $ 607,011
Inventory valuation allowance (67,006) (67,006)
----------------------------------------- ----------- ----------
TOTALS $ 616,020 $ 540,005
======================
5. NOTE PAYABLE - LINE OF CREDIT
The Corporation has a line of credit arrangement with SunTrust Bank which
expires on June 30, 2005. Under the agreement the line is due on demand and
interest is payable monthly depending on the Corporation's leverage ratio at the
LIBOR rate plus the applicable spread which ranges from 1.95% to 3.50%. The
weighted average interest rates incurred for the years ended December 31, 2004
and 2003 were 3.69% and 3.51%, respectively. The line of credit is secured by
substantially all of the assets of the Corporation. Under the terms of the
agreement, the Corporation may borrow up to the lesser of $5,000,000 or 85% of
eligible Government receivables plus 75% of eligible commercial receivables. The
maximum amount available under the line of credit at December 31, 2004 and 2003
was $5,000,000 and $3,000,000, respectively.
The line of credit agreement contains certain financial covenants, including
minimum quarterly net income, minimum tangible net worth ratio and a debt
coverage ratio, with which the Corporation was in compliance at December 31,
2003. At December 31, 2004 the Corporation was not in compliance with the
financial covenants, and subsequent to year end, received a waiver of those
covenants from the bank.
6. INCOME TAXES
For the years ended December 31, 2004, 2003 and 2002, the components of the
provision for income taxes consisted of:
2004 2003 2002
------------------------------------
CURRENT
State $ 51,380 $ 35,125 $ 7,529
DEFERRED
Federal 1,542,000
State 341,000
---------------------- ------------ ----------- -----------
TOTALS $ 1,934,380 $ 35,125 $ 7,529
====================================
F-10
The provision for income taxes for the years ended December 31, 2004, 2003 and
2002 reflected in the accompanying financial statements varies from the amount
which would have been computed using statutory rates as follows:
2004 2003 2002
------------ ----------- -----------
Tax computed at the maximum Federal statutory rate $ (623,057) $ 158,738 $ 814,447
State income tax, net of Federal benefit (84,662) 21,570 110,669
Merger related expenses 62,441
Other permanent differences 3,400 17,111 10,725
Reduction in income taxes due to S-Corporation status (162,294) (928,312)
Income tax expense attributable to revocation of
S-Corporation election 2,576,258
---------------------------------------------------------- ------------ ----------- -----------
PROVISION FOR INCOME TAXES $ 1,934,380 $ 35,125 $ 7,529
============ =========== ===========
A net deferred income tax liability of $1,883,000 at December 31, 2004 results
from financial statement income and expenses that are recognized in different
periods for income tax purposes. The components of such temporary differences
are as follows:
2004
-----------
Section 481 adjustment due to conversion from cash basis to accrual
basis for income tax reporting $(2,122,000)
Inventory valuation allowance 26,000
Accrued vacation and officers' compensation deducted for financial
statement reporting purposes but not income tax reporting purposes 173,000
Depreciation and amortization expense reported for income tax
purposes different from financial statement amounts (73,000)
Deferred rent 56,000
Net operating loss carryforward 57,000
Net operating loss carryforward - PDHO 1,502,000
--------------------------------------------------------------------- -----------
NET (381,000)
LESS: VALUATION ALLOWANCE (1,502,000)
--------------------------------------------------------------------- -----------
NET DEFERRED TAX LIABILITY $(1,883,000)
===========
For income tax purposes, the Paradigm Solutions Corporation has a net operating
loss carryforward of approximately $148,000 at December 31, 2004 that, subject
to applicable limitation, may be applied against future taxable income. If not
utilized, the net operating loss carryforward will expire in the year 2024.
In addition, Paradigm Holdings, Inc. has operating loss carryforwards of
approximately $3,891,000 related to pre-merger activities. The Internal Revenue
Code places certain limitations on the annual amount of net operating loss
carryforward which can be utilized when certain changes in the Corporation's
ownership occur. Changes in the Corporation's ownership may limit the use of
such carryforward benefits. If not utilized, these operating loss carryforwards,
as limited, will expire in various years beginning in 2020 and through the year
2024.
F-11
Prior to November 5, 2004, Paradigm Solution Corporation was taxed as an
S-Corporation. The timing differences between book basis and income tax basis
and the related deferred income tax liability that existed as of the date of the
revocation of the S election was as follows:
Accounts receivable $ 11,147,000
Prepaid expenses 4,374,000
Depreciation 191,000
Accounts payable and account expenses (6,923,000)
Accrued salaries and related liabilities (1,980,000)
Deferred rent (135,000)
------------
Total timing differences $ 6,674,000
============
Deferred income tax liability $ 2,576,258
============
7. LEASES
The Corporation is obligated under an operating lease, as lessee, for its office
space which expires in 2011. The lease contains escalation clauses for 2.5%-3%
annual increases in the base monthly rent. In addition, the Corporation leases
equipment, as lessee, under noncancelable operating leases that expire at
various times through March 2006.
The following is a schedule, by year, of future minimum rental payments required
under the operating leases:
Year Ending
December 31, Office Space Equipment Total
-------------------------------------------------------
2005 $ 887,232 $ 40,572 $ 927,804
2006 884,520 34,794 919,314
2007 543,515 11,535 555,050
2008 447,132 -- 447,132
2009 458,313 -- 458,313
Thereafter 668,328 -- 668,328
---------- ---------- ----------
Total $3,889,040 $ 86,901 $3,975,941
========== ========== ==========
Total rent expense for the years ended December 31, 2004, 2003 and 2002 was
$945,878, $613,202 and $204,126, respectively.
8. RETIREMENT PLAN
The Corporation maintains a 401(k) profit sharing retirement plan for all
eligible employees. Under the plan, employees become eligible to participate
after three months of employment. The annual contribution under this plan is
based on employee participation. The participants may elect to contribute up to
100% of their gross annual earnings limited to amounts specified in Internal
Revenue Service Regulations as indexed for inflation. The Corporation's matching
contribution to the Plan is determined annually by the Board of Directors. For
the years ended December 31, 2004, 2003 and 2002, the Corporation contributed an
amount equal to 100% of the first 3% of the employees' contributions as a match.
Employees vest 100% in all salary reduction contributions. Rights to benefits
provided by the Corporation's matching contributions vest over a five year
period. The Corporation's contributions were $289,681, $224,684 and $148,041 for
the years ended December 31, 2004, 2003 and 2002, respectively.
F-12
9. COMPENSATION AND EMPLOYMENT AGREEMENTS
During 1999, the Corporation entered into a Section 162 Bonus Plan for the
benefit of its executives. This plan is a nonqualified employee benefit
arrangement. The Corporation pays a bonus to its executives who use the bonus to
pay the premiums on life insurance policies insuring his/her life. The policies
are owned personally by the executives. The bonus payments are treated as
additional compensation to the executives. The Corporation's bonus payments
under this plan were $88,747, $86,628 and $42,623 for the years ended December
31, 2004, 2003 and 2002 respectively.
Effective November 4, 2004, Raymond Huger, Frank Jakovac and Mark Serway and
Paradigm Holdings entered into an Employment Agreement. Pursuant to the
agreement, Mr. Huger serves as Chief Executive Officer, Mr. Jakovac serves as
Chief Operating Officer and Mr. Serway serves as Chief Financial Officer. The
agreement has a term of three years and is renewable for additional terms of one
(1) year unless either party provides the other with notice at least ninety (90)
days prior to the date the employment term would otherwise renew. Paradigm
Holdings can terminate the agreement by providing at least thirty (30) days'
advance written notice to any of the three executives. In the event that
Paradigm Holdings terminates the agreement, other than in connection with a
change of control of Paradigm Holdings and other than for cause, Paradigm
Holdings is obligated to continue to pay their base salary and benefits for a
period that is the greater of: (i) the remainder of the initial employment term
or (ii) twelve (12) months from the date of termination. Under the agreement,
Mr. Huger receives $395,200, Mr. Jakovac receives $365,250 in annual salary in
annual salary, Mr. Serway receives $315,175 in annual salary and all are
entitled to participate in any benefit plans provided by Paradigm Holdings to
its executives or employees generally.
10. CONTRACT STATUS
PROVISIONAL INDIRECT COST RATES
Billings under cost-based government contracts are calculated using provisional
rates which permit recovery of indirect costs. These rates are subject to audit
on an annual basis by the government agencies' cognizant audit agency. The cost
audits will result in the negotiation and determination of the final indirect
cost rates which the Corporation may use for the period(s) audited. The final
rates, if different from the provisionals, may create an additional receivable
or liability.
As of December 31, 2004, the Corporation has had no final settlements on
indirect rates. The Corporation periodically reviews its cost estimates and
experience rates and adjustments, if needed, are made and reflected in the
period in which the estimates are revised. In the opinion of management,
redetermination of any cost-based contracts for the open years will not have any
material effect on the Corporation's financial position or results of
operations.
CONTRACT STATUS
The Corporation has authorized but uncompleted contracts on which work is in
progress at December 31, 2004 approximately, as follows:
2004
--------------
Total contract prices of initial contract awards, including
exercised options and approved change orders (modifications) $ 179,025,000
Completed to date (144,150,000)
----------------------------------------------------------------------------------
AUTHORIZED BACKLOG $ 34,875,000
=============
The foregoing contracts contain unfunded and unexercised options not reflected
in the above amounts of approximately $91,340,000.
11. STOCKHOLDERS EQUITY
Stockholders' equity of the Corporation has been restated retroactively to
reflect the equivalent number of shares of common stock received in the reverse
acquisition with Paradigm Holdings, Inc. which occurred on November 3, 2004.
F-13
12. PRO FORMA FINANCIAL STATEMENTS
The unaudited pro forma information for the periods set forth below gives effect
to the above noted reverse merger as if it had occurred at the beginning of the
period. The pro forma information is presented for informational purposes only
and is not necessarily indicative of the results of operations that actually
would have been achieved had the acquisitions been consummated as of that time
(unaudited):
2004 2003
--------------- -------------
Revenue $ 61,756,301 $ 51,216,189
Net income (loss) (1,116,476) 292,969
Net income (loss) per share,
basic and diluted (.06) .02
The unaudited pro forma information for the periods set forth below is based on
the operations of Paradigm Solutions Corporation and is prepared as if the
Corporation had been a C Corporation at the beginning of each period.
2004 2003 2002
------------ ------------ ------------
STATEMENT OF OPERATION DATA: (Pro forma) (Pro forma) (Pro forma)
------------ ------------ ------------
Contract revenue $ 61,756,301 $ 51,205,992 $ 37,673,092
Net income (loss) before income taxes (1,832,521) 466,876 2,395,432
Income tax provision (benefit) (707,353) 180,214 924,636
------------ ------------ ------------
Net income (loss) $ (1,125,168) $ 286,662 $ 1,470,796
============ ============ ============
Basic and diluted net income (loss) per
common share $ (0.06) $ 0.02 $ 0.08
Weighted average common shares outstanding 17,896,709 17,896,709 17,896,709
F-14
13. SELECTED QUARTERLY FINANCIAL DATA-UNAUDITED
The following table presents the quarterly results for the Corporation for the
years ended December 31, 2004 and 2003:
1ST 2ND 3RD 4TH
QUARTER QUARTER QUARTER QUARTER
------------ ------------ ------------ ------------
2004
Revenue $ 14,111,171 $ 15,271,579 $ 16,592,604 $ 15,780,947
Gross margin 3,456,670 4,027,971 3,953,784 3,644,693
Net income (loss) $ (153,321) $ (143,415) $ (255,237) $ (3,214,928)
Net income (loss) per
share, basic and $ (0.01) $ (0.01) $ (0.01) $ (0.18)
Diluted
- --------------------------------------------------------------------------------------------
1ST 2ND 3RD 4TH
QUARTER QUARTER QUARTER QUARTER
------------ ------------ ------------ ------------
2003
Revenue $ 10,599,899 $ 14,287,100 $ 12,281,706 $ 14,037,287
Gross margin 2,529,140 3,483,192 2,785,975 3,657,271
Net income (loss) $ (62,029) $ 752,044 $ (172,830) $ (85,434)
Net income (loss) per
share, basic and
diluted $ (0.01) $ 0.04 $ (0.01) $ (0.02)
The Corporation restated the results of the first, second and third quarters of
2004 to property recognize revenue on the Department of Treasury LTMCC contract.
14. REGULATIONS
PDHO owned producing oil and gas properties. The development and operation of
oil, gas and other mineral properties are subject to numerous and extensive
regulations by federal and state agencies dealing with, among other subjects,
protection of the environment. Management is not aware of any potential
environmental liabilities.
15. LITIGATION
The Company is involved in legal actions arising in the normal course of
business. The Company believes the claims are without merit and intends to
vigorously defend its position. In the opinion of management, the outcome of
these matters will not have a material adverse effect on these financial
statements.
F-15
PARADIGM HOLDINGS, INC.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
For the years ended December 31, 2004, 2003 and 2002:
Additions
Balance at Charged to
Beginning Costs and Balance at
Description of Period Expenses Deductions End of Period
- ------------------------------------------- -------------------------------------------------------------
Deferred tax asset valuation allowance
December 31, 2002 $ -- $ -- $ -- $ --
December 31, 2003 -- -- -- --
December 31, 2004(1) -- 1,502,000 -- 1,502,000
Allowance for non-salable inventory
December 31, 2002 $ -- $ -- $ -- $ --
December 31, 2003 -- 67,006 -- 67,006
December 31, 2004 67,006 -- -- 67,006
(1) as a result of merger with Paradigm Holdings, Inc.
F-16
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.
PARADIGM HOLDINGS, INC.
Date: April 11, 2005 By: /S/ Raymond A. Huger
----------------------------------------------
Raymond A. Huger
Chairman, Chief Executive Officer and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant in
the capacities and on the dates indicated.
Signature Title Date
- --------- ----- ----
/s/ Mark A. Serway Chief Financial Officer April 11, 2005
- ------------------------- and Director
Mark A. Serway
/s/ Frank J. Jakovac President and COO April 11, 2005
- ------------------------- and Director
Frank J. Jakovac
/s/ Francis X. Ryan Director April 11, 2005
- -------------------------
Francis X. Ryan
27
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- --------- ----------------------
10.1 Employment Agreement between the Registrant and Raymond A.
Huger, dated November 4, 2004 (1)
10.2 Employment Agreement between the Registrant and Frank J.
Jakovac, dated November 4, 2004 (1)
10.3 Employment Agreement between the Registrant and Mark A.
Serway, dated November 4, 2004 (1)
10.4 Amended November 15, 2004 SunTrust Line of Credit Agreement
10.5 Material Contract - Department of Treasury - IRS LTMCC
10.6 Material Contract - Department of Justice - Alcohol, Tobacco,
Firearms and Explosives
10.7 Material Contract - Housing and Urban Development - Community
Planning and Development
10.8 Material Contract - Department of Homeland Security - US
Secret Service
14.1 Code of Ethics (1)
31.1 Section 302 Certification of Chief Executive Officer
31.2 Section 302 Certification of Chief Financial Officer
32.1 Section 906 Certification of Chief Executive Officer
32.2 Section 906 Certification of Chief Financial Officer
(1) Filed as exhibit to the Form SB-2 (No. 333-122777) dated February 11, 2005.
28