<PAGE> 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549-1004
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OF THE SECURITIES EXCHANGE ACT
--- OF 1934
For the quarterly period ended September 30, 1998
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OF THE SECURITIES EXCHANGE ACT
--- OF 1934
For the transition period from to
Commission file number 0-21485
SUPERIOR CONSULTANT HOLDINGS CORPORATION
(exact name of registrant as specified in its charter)
STATE OF DELAWARE 38-3306717
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4000 Town Center, Suite 1100 Southfield, Michigan 48075
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (248) 386-8300
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
As of November 13, 1998 10,303,241 shares of the registrant's common stock (par
value $.01) were outstanding.
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SUPERIOR CONSULTANT HOLDINGS CORPORATION
QUARTER ENDED SEPTEMBER 30, 1998
INDEX
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION PAGE NO.
---------
<S> <C>
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of September 30, 1998 and December 3
31, 1997 (unaudited)
Condensed Consolidated Statements of Earnings for the three and nine months 4
ended September 30, 1998 and 1997 (unaudited)
Condensed Consolidated Statements of Cash Flows for the nine months ended 5
September 30, 1998 and 1997 (unaudited)
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of 9
Operations
Item 3. Quantitative and Qualitative Disclosure About Market Risk Sensitive
Instruments 16
PART II - OTHER INFORMATION
Item 2. Changes In Securities And Use Of Proceeds 17
Item 5. Other Information 18
Item 6. Exhibits and Reports on Form 8-K 19
SIGNATURES 20
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SUPERIOR CONSULTANT HOLDINGS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1998 1997
----------------- ------------------
ASSETS
<S> <C> <C>
Current assets
Cash $ 881 $ 2,795
Short-term investments 58,820 84,458
Accounts receivable, net 35,788 18,464
Accrued interest receivable and prepaid expenses 1,327 1,589
Deferred income taxes 509 352
--------- ---------
Total current assets 97,325 107,658
Property and equipment, net 12,441 6,915
Goodwill, net 13,931 4,711
Equity investment in EMPOWER 4,549 -
Other long term assets 102 117
--------- ---------
Total Assets $ 128,348 $ 119,401
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Current portion of long-term debt $ - $ 91
Accounts payable 4,337 3,061
Accrued liabilities 4,312 5,016
Deferred revenue 886 1,597
Income taxes payable 627 261
--------- ---------
Total current liabilities 10,162 10,026
Long-term debt 65 98
Deferred income taxes 123 350
Deferred performance bonuses 564 564
Stockholders' equity
Preferred stock; authorized, 1,000,000 shares of
$.01 par value; no shares issued or outstanding - -
Common stock; authorized, 30,000,000 shares of
$.01 par value; issued and outstanding, 10,284,158 as of
September 30, 1998 and 10,208,024 as of December 31, 1997 103 102
Additional paid-in capital 107,818 105,632
Retained earnings 10,192 3,308
Stockholders' notes receivable (679) (679)
--------- ---------
Total stockholders' equity 117,434 108,363
--------- ---------
Total Liabilities and Stockholders' Equity $ 128,348 $ 119,401
========= =========
</TABLE>
See notes to condensed consolidated financial statements.
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SUPERIOR CONSULTANT HOLDINGS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------------- -------------------------------
1998 1997 1998 1997
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Revenues $ 33,123 $ 19,491 $ 85,303 $ 54,302
Operating costs and expenses
Cost of services 17,686 9,850 44,501 27,627
Selling, general and administrative expenses 12,457 7,725 33,018 22,192
-------- -------- -------- --------
Total operating costs and expenses 30,143 17,575 77,519 49,819
-------- -------- -------- --------
Earnings from operations 2,980 1,916 7,784 4,483
Other income, principally interest income 1,122 498 3,743 1,415
Costs incurred in connection with mergers - (692) - (692)
-------- -------- -------- --------
Earnings before income taxes 4,102 1,722 11,527 5,206
Income taxes 1,655 933 4,643 2,301
-------- -------- -------- --------
Net earnings $ 2,447 $ 789 $ 6,884 $ 2,905
======== ======== ======== ========
Net earnings per share - basic $ 0.24 $ 0.10 $ 0.67 $ 0.35
======== ======== ======== ========
Net earnings per share - diluted $ 0.23 $ 0.09 $ 0.65 $ 0.35
======== ======== ======== ========
Weighted average number of common and
common equivalent shares outstanding - basic 10,284 8,218 10,252 8,224
======== ======== ======== ========
Weighted average number of common and
common equivalent shares outstanding - diluted 10,638 8,419 10,564 8,406
======== ======== ======== ========
</TABLE>
See notes to condensed consolidated financial statements.
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SUPERIOR CONSULTANT HOLDINGS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30,
-----------------------------------
1998 1997
-------------- ---------------
<S> <C> <C>
Cash flows from operating activities:
Net earnings $ 6,884 $ 2,905
Adjustments to reconcile net earnings
to net cash used in operating activities:
Depreciation and amortization 1,796 1,052
Bad debt expense 279 217
Deferred income tax benefit (384) (29)
Non-cash compensation - (834)
Changes in operating assets and liabilities:
Accounts receivable (13,370) (3,224)
Accrued interest receivable and prepaid expenses 262 (303)
Other long-term assets 15 237
Accounts payable 1,276 391
Accrued liabilities, deferred bonuses and compensation (704) (1,340)
Deferred revenue (711) (130)
Income taxes payable 366 (501)
-------- --------
Net cash used in operating activities (4,291) (1,559)
Cash flows from investing activities:
Purchase of Aviant (5,120) -
Equity investment in EMPOWER (4,549) -
Purchase of Lincoln Computer Corp. (1,239) -
Purchase of NSD (5,021) -
Purchase of Novum, Inc. (312) -
Purchase of The Kaufman Group (462) (3,375)
Purchases of property and equipment (6,766) (3,404)
-------- --------
Net cash used in investing activities (23,469) (6,779)
Cash flows from financing activities:
Repurchase of common stock - (41)
Exercise of stock options 354 80
Costs of follow on offering (22) -
Repayment of line of credit, net - (1,298)
Repayment of long-term debt (124) (465)
-------- --------
Net cash provided by (used in) financing activities 208 (1,724)
-------- --------
Net decrease in cash (27,552) (10,062)
Cash and cash equivalents, beginning of period 87,253 36,795
-------- --------
Cash and cash equivalents, end of period $ 59,701 $ 26,733
======== ========
Supplemental disclosure of cash flow information:
Interest expense $ 15 $ 117
Income tax payments $ 5,313 $ 3,141
Non-cash acquisition costs (Issuance of common
stock for Novum, Inc.) $ 138 $ -
Non-cash acquisition costs (Issuance of common
stock for Lincoln, Inc.) $ 1,716 $ -
Non-cash Chi deferred compensation transaction,
net of deferred taxes $ - $ 460
Non-cash acquisition costs (Issuance of common
stock for The Kaufman Group) $ - $ 1,600
</TABLE>
See notes to condensed consolidated financial statements.
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SUPERIOR CONSULTANT HOLDINGS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 1998
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
have been prepared pursuant to the rules of the Securities and Exchange
Commission for quarterly reports on Form 10-Q. Accordingly, they do not include
all of the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals and estimated provisions
for bonus and profit-sharing arrangements) considered necessary for a fair
presentation have been included. Operating results for the three-month and
nine-month periods ended September 30, 1998 are not necessarily indicative of
the results that may be expected for the year ended December 31, 1998.
These financial statements should be read in conjunction with the
Company's audited consolidated financial statements and notes thereto included
in the Company's 1997 annual report on Form 10-K filed by the Company with the
Securities and Exchange Commission on March 31, 1998.
Certain 1997 amounts have been reclassified to conform to the
classifications used in 1998.
NOTE 2 - NET EARNINGS PER SHARE
On December 31, 1997, the Company adopted Statement of Financial
Accounting Standard No. 128, Earnings Per Share. As required by SFAS 128, EPS
for the three-month and nine-month periods ended September 30, 1997 have been
restated to conform to its provisions. The Company's basic net earnings per
share amounts have been computed by dividing net earnings by the weighted
average number of outstanding common shares. The Company's diluted net earnings
per share is computed by dividing net earnings by the weighted average number of
outstanding common shares and common share equivalents relating to stock
options, when dilutive.
The computation of diluted net earnings per share for the three months
ended September 30, 1998 and 1997 includes approximately 354,000 and 201,000
shares of common stock equivalents, respectively. The computation of diluted net
earnings per share for the nine months ended September 30, 1998 and 1997
includes approximately 312,000 and 182,000 shares of common stock equivalents,
respectively. Options to purchase approximately 47,400 and 40,850 shares of
common stock with a weighted average exercise price of $41.72 and $36.43 were
outstanding at September 30, 1998 and 1997 respectively, but were excluded from
the computation of common share equivalents because to do so would have been
antidilutive for the periods presented.
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NOTE 3 - BUSINESS ACQUISITIONS
On January 16, 1998, the Company purchased the assets and business of
the Network Services Division ("NSD") of Multimedia Medical Systems, Inc. NSD,
which is located in Burlington, Massachusetts, specializes in software
implementation and networking technology solutions for healthcare organizations.
The purchase price was approximately $5.0 million in cash. The business
combination was recorded using the purchase method of accounting and,
accordingly, the operating results of NSD have been included in the Company's
consolidated financial statements since the date of acquisition. The excess of
the aggregate purchase price over the fair market value of the net assets
acquired of approximately $3.6 million is being amortized over 15 years.
On March 26, 1998, the Company purchased the assets and business of
Novum, Inc. ("Novum") located in Gainesville, Georgia, which specializes in
software applications relating to the healthcare industry. The purchase price
was approximately $670,000, consisting of approximately $312,000 in cash and
approximately $138,000 in newly-issued common stock payable at closing, and an
additional contingent payment of up to a maximum of $220,000 payable in cash and
newly-issued common stock over a three year period contingent on the achievement
of certain performance benchmarks by the acquired business. The business
combination was recorded using the purchase method of accounting and,
accordingly, the operating results of Novum have been included in the Company's
consolidated financial statements since the date of acquisition. The entire
purchase price has been allocated to goodwill and is being amortized over 15
years.
On April 30, 1998, the Company purchased substantially all of the
business assets of Lincoln Computer Corporation ("Lincoln"), a healthcare
outsourcing business located in Wallingford, Connecticut. The purchase price was
approximately $1.7 million in newly-issued common stock payable at closing, plus
the assumption of approximately $1.2 million in liabilities of the acquired
business, an additional contingent payment of up to a maximum of approximately
$1.3 million in cash and approximately $5.4 million in newly-issued common stock
payable over a three-year period contingent on the achievement of certain
performance benchmarks by the acquired business. The acquisition was recorded
using the purchase method of accounting and, accordingly, the operating results
of Lincoln have been included in the Company's consolidated financial statements
since the date of acquisition. The excess of the aggregate purchase price over
the fair market value of the net assets acquired is being amortized over 15
years.
On May 4, 1998, the Company made a $4.5 million investment in
convertible preferred stock of Empower Health Corporation ("Empower") of Austin,
Texas. Empower's mission is to improve the quality of people's lives by
empowering them with personalized healthcare information and enabling electronic
interactions and online transactions with the healthcare industry. The
investment was recorded using the cost method of accounting.
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NOTE 3 - BUSINESS ACQUISITIONS (CONTINUED)
On August 20, 1998, the Company purchased substantially all the
business assets of Aviant Information, Inc. ("Aviant"), a wholly-owned
subsidiary of Whittaker Corporation. Aviant, located in Simi Valley, California,
specializes in systems integration, including project management, complex
network design, network planning, simulation, implementation and support. The
purchase price was approximately $5.1 million in cash. The business combination
was recorded using the purchase method of accounting and, accordingly, the
operating results of Aviant have been included in the Company's consolidated
financial statements since the date of acquisition. The excess of the aggregate
purchase price over the fair market value of the net assets acquired of
approximately $2.6 million is being amortized over 15 years. Reference is made
to the Asset Purchase and Escrow Agreements, copies of which were filed with the
Company's Form 8-K on September 2, 1998.
NOTE 4 - SUBSEQUENT EVENT
On November 4, 1998, the Company purchased the assets and business of
Clark Information Services Inc. ("Clark"), located in Los Angeles, California,
which specializes in data warehouse design and Year 2000 business risk
assessment. The purchase price was approximately $4.2 million, consisting of
approximately $1.0 million in cash and approximately $500,000 in newly-issued
common stock payable at closing, and an additional contingent payment of up to a
maximum $810,000 in cash and approximately $1.9 million in newly-issued common
stock payable over a two year period contingent on the achievement of certain
performance benchmarks by the acquired business. The acquisition will be
recorded using the purchase method of accounting.
NOTE 5 - NEW ACCOUNTING PRONOUNCEMENTS
In September 1997, the FASB issued Statement of Financial Accounting
Standards No. 130, Reporting of Comprehensive Income ("SFAS 130"), which
establishes standards for reporting and display of comprehensive income and its
components (revenues, expense, gains, and losses) in a full set of financial
statements. This statement also requires that all items that are required to be
recognized under accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements. This statement will become effective with the full
set of financial statements expected to be filed as of and for the year ended
December 31, 1998. Reclassification of financial statements for earlier periods
provided for comparative purposes is required. The Company does not anticipate
that adoption of SFAS 130 will have a material effect on the consolidated
financial statements.
In September 1997, the FASB issued Statement of Financial Accounting
Standards No. 131, Disclosure about Segments of an Enterprise and Related
Information ("SFAS 131"), which establishes standards for the way that public
business enterprises report information about operating segments in annual
financial statements, and requires that those enterprises report selected
information about operating segments in interim financial reports issued to
stockholders. This statement also establishes standards for related disclosures
about products and services, geographic areas, and major customers. This
statement became effective January 1, 1998 for annual financial statements. This
statement will be applied to interim financial statements in 1999, and will
include comparative information for 1998 interim periods.
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ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Statements included in Management's Discussion and Analysis of
Financial Condition and Results of Operations which are not historical in
nature, are intended to be, and are hereby identified as, "forward looking
statements" for purposes of the safe harbor provided by Section 21E of the
Securities Exchange Act of 1934, as amended by Public Law 104-67.
Forward-looking statements may be identified by words including "anticipate,"
"believe," "intends," "estimates," "expect" and similar expressions. The Company
cautions readers that forward-looking statements, including without limitation,
those relating to the Company's future business prospects, revenues, working
capital, liquidity, income, and Year 2000 issues are subject to numerous risks
and uncertainties that could cause actual results to differ materially from
those indicated in the forward looking statements, due to several important
factors herein identified, among others, and other risks and factors identified
from time to time in the Company's reports filed with the SEC, including the
risk factors identified in the Company's Registration Statement on Form S-1
(File No. 333-10213), Registration Statement on Form S-1 (File No. 333-37357)
and Registration Statement on Form S-3 (File No. 333-53339).
The Company conducts business through its two primary operating
subsidiaries, Superior Consultant Company, Inc. ("Superior") and Enterprise
Consulting Group, Inc. ("Enterprise"). Superior is a leading healthcare
consulting firm that provides a wide range of information technology consulting
and strategic and operations management consulting services to a broad
cross-section of healthcare industry participants and healthcare information
system vendors. Enterprise assists clients in various industries in developing,
designing, implementing and maintaining groupware and intranet and web based
information systems and solutions, as well as enterprise messaging and custom
applications and legacy systems integration.
The Company derives substantially all of its revenues from fees for
professional services, the majority of which are billed at contracted hourly
rates. The Company establishes standard billing guidelines based on the type and
level of service offered. Actual billing rates are established on a project by
project basis and may vary from the standard guidelines. Billings are typically
made on a bi-weekly basis to monitor client satisfaction and manage outstanding
accounts receivable balances. Revenue on time and materials contracts is
recognized as the services are provided. A growing percentage of the Company's
projects are billed on a fixed-fee basis. The Company recognizes revenue on
fixed fee projects using the percentage of completion basis. As of September 30,
1998, the Company has increased the number and size of projects billed on a
fixed-fee basis. Increased use of fixed-fee contracts subjects the Company to
increased risks, including cost overruns. As of September 30, 1998, the Company
has been awarded six contracts to provide healthcare IT outsourcing services.
There can be no assurance that the Company will be able to achieve profit
margins on outsourcing contracts which are consistent with its historical levels
of profitability.
The Company's historical revenue growth is attributable to various
factors, including an increase in the number of projects for existing and new
clients, expanded geographic presence and acquisitions. In addition, the Company
seeks to increase revenues by expanding its range of specialty services. The
Company manages its client development efforts through several strategic
services groups, each having specific geographic responsibility and focus.
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The Company's most significant expense is cost of services, which
consists primarily of consultant compensation and benefits. In recent years,
consultant compensation expense has grown faster than consultant billing rates,
resulting in an increase in the Company's cost of services as a percentage of
revenues. The Company has sought to address this issue by adding an additional
variable portion of compensation payable upon the achievement of measurable
performance goals.
The Company's cost of services as a percentage of revenues is also
impacted by its consultant utilization. The Company manages utilization by
monitoring project requirements and timetables. The number of consultants
assigned to a project will vary according to the size, complexity, duration and
demands of the project. Project terminations, completions and scheduling delays
may result in periods when consultants are not fully utilized. An unanticipated
termination of a significant project could cause the Company to experience lower
consultant utilization, resulting in a higher than expected number of unassigned
consultants. In addition, the establishment of new practice areas and the hiring
of consultants in peak hiring periods have resulted in periods of lower
consultant utilization (and resulting downward pressure on margins) until
project volume increases in these new areas. In the future, the establishment of
new practice areas, as well as further geographic expansion, could from time to
time adversely affect utilization. Variations in consultant utilization result
in quarterly variability of the Company's cost of services as a percentage of
revenues. The Company's consultants are generally employed on a full-time basis,
and therefore the Company will, in the short run, incur substantially all of its
employee-related costs even during periods of low utilization.
Selling, general and administrative expenses include the costs of
recruiting, continuing education, marketing, facilities, equipment depreciation,
business development, goodwill amortization, and administration, including
compensation and benefits. Selling, general and administrative expenses as a
percentage of total revenues continues to decrease as the Company leverages its
infrastructure expense across its growing revenue base.
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THREE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO THREE MONTHS ENDED
SEPTEMBER 30, 1997
Revenues. Revenues increased by $13.6 million, or 69.9%, to $33.1
million for the three months ended September 30, 1998, as compared to $19.5
million for the three months ended September 30, 1997. The revenue increase was
due primarily to continued strong growth in core lines of business, activity
from the Company's acquisitions and revenue realized from three outsourcing
contracts consummated during 1998.
Cost of Services. Cost of services increased by $7.8 million, or 79.6%,
to $17.7 million for the three months ended September 30, 1998, as compared to
$9.9 million for the three months ended September 30, 1997. The increase was due
to the additional number of consultants required to support the Company's larger
revenue base, as well as increases in their compensation levels. Cost of
services as a percentage of revenue increased to 53.4% for the three months
ended September 30, 1998, as compared to 50.5% for the three months ended
September 30, 1997. This increase was caused by an increase in compensation
levels while average billing rates remained relatively constant. In addition,
the Company experienced slightly lower consultant utilization resulting from the
start-up of new outsourcing contracts and the growth of the Company's consultant
headcount by approximately 16% during the third quarter of 1998.
Selling, general and administrative expenses. Selling, general and
administrative expenses increased by $4.7 million, or 61.3%, to $12.5 million
for the three months ended September 30, 1998, as compared to $7.8 million for
the three months ended September 30, 1997. This increase was due to incentive
and other compensation expenses associated with the addition of key personnel,
as well as higher recruiting, continuing education and marketing expenses
consistent with the Company's growth. Selling, general and administrative
expenses as a percentage of revenues decreased to 37.6% from 39.6% primarily due
to increased operating efficiencies resulting from the Company's ongoing efforts
to leverage its infrastructure expense across its growing revenue base.
Other income and expense. Other income was $1,122,000 for the three
months ended September 30, 1998, as compared to $498,000 of other income for the
three months ended September 30, 1997. The change was due primarily to interest
earned on the investment of the majority of the net proceeds of approximately
$60.3 million from the public offering held by the Company in November, 1997.
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NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO NINE MONTHS ENDED
SEPTEMBER 30, 1997
Revenues. Revenues increased by $31.0 million, or 57.1%, to $85.3
million for the nine months ended September 30, 1998, as compared to $54.3
million for the nine months ended September 30, 1997. The revenue increase was
due primarily to continued strong growth in core lines of business, activity
from the Company's acquisitions and revenue realized from three outsourcing
contracts consummated during 1998.
Cost of Services. Cost of services increased by $16.9 million, or
61.1%, to $44.5 million for the nine months ended September 30, 1998, as
compared to $27.6 million for the nine months ended September 30, 1997. The
increase was due to the additional number of consultants required to support the
Company's larger revenue base, as well as increases in their compensation
levels. Cost of services as a percentage of revenue increased to 52.2% for the
nine months ended September 30, 1998, as compared to 50.9% for the nine months
ended September 30, 1997. This increase is attributable to the increase in the
Company's consultant base which grew by approximately 74% during the first nine
months of 1998. This resulted in lower consultant utilization during start-up,
which was partially offset by the variable portion of compensation payable to
these consultants, which is contingent upon achievement of performance goals set
by the company.
Selling, general and administrative expenses. Selling, general and
administrative expenses increased by $10.8 million, or 48.8%, to $33.0 million
for the nine months ended September 30, 1998, as compared to $22.2 million for
the nine months ended September 30, 1997. This increase was due to incentive and
other compensation expenses associated with the addition of key personnel, as
well as higher recruiting, marketing and continuing education expenses
consistent with the Company's growth. Selling, general and administrative
expenses as a percentage of revenues decreased to 38.7% from 40.9% primarily due
to increased operating efficiencies resulting from leveraging the Company's
infrastructure expense across its growing revenue base.
Other income and expense. Other income was $3,743,000 for the nine
months ended September 30, 1998, as compared to $1,415,000 of other income for
the nine months ended September 30, 1997. The change was due primarily to
interest earned on the investment of the majority of the net proceeds of
approximately $60.3 million from the public offering held by the Company in
November, 1997.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary capital needs have been to fund the growth in
working capital required to support its growth in revenues. Prior to the
Company's Initial Public Offering ("IPO") in October, 1996, the Company's
primary source of liquidity was cash flow from operations. The Company believes
that the proceeds received from the Company's IPO, the net proceeds of
approximately $60.3 million from the follow-on offering completed in November
1997, and available credit under its bank credit facility will be sufficient to
finance its working capital and capital expenditure requirements for at least
the next 12 months.
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LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
At September 30, 1998, the Company had cash and cash equivalents of
$59.7 million and working capital of $87.2 million. Working capital at September
30, 1998 represents a decrease of $10.5 million from December 31, 1997 resulting
primarily from the business acquisitions of NSD, Novum, Lincoln, and Aviant in
the first three quarters of 1998, purchases of property and equipment, the
equity investment in Empower and an additional payment made relating to the
March 1997 acquisition of The Kaufman Group required by the purchase agreement.
Currently, the Company's remaining contingency payable relating to The Kaufman
Group purchase agreement is approximately $1.0 million payable over the next two
years.
The Company has an unsecured line of credit arrangement at Comerica
Bank N.A. of $3.0 million, which bears interest at the prime rate. As of
September 30, 1998, the Company had no amounts outstanding under this line of
credit.
Net cash used in operating activities was $4,291,000 and $1,559,000 for
the nine months ended September 30, 1998 and 1997 respectively. The increase in
cash used in operations is primarily due to an increase in accounts receivable;
which was partially offset by higher earnings in the current period.
Net cash of $23.5 million used in investing activities during the nine
months ended September 30, 1998 consists of the business acquisitions of NSD,
Novum, Lincoln and Aviant, additions to property and equipment, the equity
investment in Empower and an additional payment made relating to the March 1997
acquisition of The Kaufman Group required by the purchase agreement. Currently,
the Company's remaining contingency payable relating to this purchase agreement
is approximately $1.0 million payable over the next two years.
Net cash provided by financing activities during the nine months ended
September 30,1998, was principally the result of proceeds received from the
exercise of stock options.
On August 20, 1998, the Company purchased the assets and business of
Aviant, located in Simi Valley, California, which specializes in systems
integration, including project management, complex network design, network
planning, simulation, implementation and support. The purchase price was
approximately $5.1 million in cash. The business combination was recorded using
the purchase method of accounting.
On October 1, 1998 The Company completed its investment in the
preferred stock of Empower with a cash payment of 1.5 million.
On November 4, 1998, the Company purchased the assets and business of
Clark, located in Los Angeles, California, which specializes in data warehouse
design and Year 2000 business risk assessment. The purchase price was
approximately $4.2 million, consisting of approximately $1.0 million in cash and
approximately $500,000 in newly-issued common stock payable at closing, and an
additional contingent payment of up to a maximum $810,000 in cash and
approximately $1.9 million in newly-issued common stock payable over a two year
period contingent on the achievement of certain performance benchmarks by the
acquired business. The acquisition will be recorded using the purchase method of
accounting.
The Company does not believe that inflation has had a material effect
on the results of its operations in the past three years.
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YEAR 2000
The Year 2000 issue ("Y2K") exists because some computer programs use
two digits rather than four to define the applicable year. For instance, these
programs record the year 1998 as "98." Some date-sensitive software may
interpret a date using "00" as the year 1900 rather than the year 2000. This
could result in a system failure or miscalculations causing disruptions of
operations, including a temporary inability to engage in normal business
activities.
Readiness
The Company is conducting an inventory and assessment of its
information technology ("IT") systems and non-IT systems (such as building
facilities, voice mail, telephone and other systems containing embedded
microprocessors). The inventory is expected to be completed by the end of 1998,
and the assessment is expected to be completed by March 31, 1999. The
remediation phase is expected to be completed by April 30, 1999, and the testing
phase, which begins in November 1998, is expected to be completed by May 15,
1999. Production is expected to be finished by May 15, 1999. The phases run
concurrently for different systems.
The Company's material internal IT systems principally consist of
payroll, accounting and human resources systems, all of vendor which are
third-party software applications. The Company has obtained written vendor
confirmation that its human resources software is Y2K compliant. The Company is
waiting for a software release for its accounting system from the vendor. The
Company expects to upgrade the accounting system in the first quarter of 1999.
The compliance status of the Company's payroll/EDI interface is being researched
and will be dependent on the version of the accounting system.
The Company purchases products and services from third parties. The
Company intends to seek written assurances from its material vendors and
suppliers that there will be no interruption of service or acceptable product as
a result of the Y2K issue. Based in part on the assurances received or not
received, the Company intends to devise contingency plans to mitigate the
negative effects on the Company in the event the Y2K issue results in the
unavailability of products or services. The Company cannot assure that any
contingency plans will prevent product or service interruption by one or more of
the Company's third party vendors or suppliers from having a material adverse
effect on the Company. It is planned that these relationships will be evaluated
through all of 1999 and changes to the supply chain as are deemed by management
to be appropriate and feasible will be made throughout 1999.
Cost
The Company expects the incremental costs directly associated with its
Y2K efforts to be approximately $350,000, of which $300,000 is expected to
be capitalizable. To date, the Company has spent approximately $103,000, all
capitalizable. The actual costs may vary from the foregoing estimate based on
assessment, contingency planning, and testing results.
Page 14
<PAGE> 15
YEAR 2000 (CONTINUED)
Other Risks
The Company performs Y2K services for certain clients. These services
include, among others, assisting certain clients to identify, assess and
remediate potential Y2K problems. In addition, former, present and future
clients could assert that certain other services performed by the Company
involved or are related to Y2K issues. There can be no assurance that various
third-party software packages that the Company has recommended and/or
implemented for its clients will all prove to be Y2K compliant. The Company's
solution delivery methodology, in many cases, empowers clients to maintain,
alter and upgrade systems after the completion of an engagement. Due to the
potential significance of Y2K issues on client operations, any failure of
critical client systems or processes that are directly or indirectly connected
to systems or software analyzed, designed, developed, or implemented by the
Company (or the businesses the Company has acquired or may acquire) may subject
the Company to claims, whether or not the failure is related to the services
provided by the Company. The resolution of such claims, if any, could have a
material adverse effect on the Company.
The Company has attempted to include provisions in client contracts
that disclaim implied warranties, limit express warranties and impose
limitations on the amounts of damages for which the Company may be liable.
However, not all past and present client contracts include such provisions. The
Company cannot assure that it will be able to obtain these provisions in
agreements for future projects. The Company also cannot assure that these
provisions will prevent past, present or future clients from asserting Y2K
claims against the Company or will protect the Company from, or limit the amount
of the Company's liability for, Y2K claims asserted against the Company.
The Company also may be subjected to claims relating to Y2K issues
based on services performed by companies which the Company has acquired or may
acquire. These services may have been performed prior to the Company's
acquisition and so would not have been in the Company's control. The resolution
of such claims, if any, could have a material adverse effect on the Company.
The Company will be at risk from external infrastructure failures,
including electrical power, telephone, and transportation, among others.
Investigation and assessment of infrastructures is beyond the scope and
resources of the Company. Among the risks arising from these sources are the
Company's inability to conduct business in its offices or at client sites that
lose electrical power or experience failure of elevator, security, HVAC or other
building systems; down time for billable personnel who are unable to travel to
or from engagement locations if airline or other transportation providers cannot
provide service; and disruption to Company business if telephone or cellular
communication is unavailable.
In addition, in many instances the services that the Company provides
to its clients are performed at the client's site, and require the use of the
client's information systems. In the event that the Company's clients experience
Y2K problems that impair or prevent access to clients' systems, the Company may
be impaired in its ability to perform services at those client sites that
experience such problems. The Company's consultants might therefore generate
less revenue during that period.
Page 15
<PAGE> 16
YEAR 2000 (CONTINUED)
Contingency Plans
The Company has not yet developed contingency plans in regard to its
internal systems, vendor/supplier issues or any of the more global
infrastructure issues. Such plans are expected to be formulated and in place by
July 1, 1999. In recognition of the fact that the business and technical
environment may continue to change during the year, the Company plans to review
on a continuing basis, and update as necessary, its contingency plan throughout
calendar 1999.
Forward Looking Statements
The estimates regarding the costs of the Company's Y2K efforts, as well
as statements regarding the potential effect of Y2K issues on the Company and
the Company's plans to deal with issues or contingencies raised by Y2K issues,
are forward-looking statements. These statements are subject to a number of
risks and uncertainties which could cause actual costs, effects or plans to
differ materially from the discussion above. Among these risks or uncertainties
are the following:
- - difficulty in successfully identifying all hardware, software and
systems which may be affected by Y2K problems or which may contain
microprocessors affected by those problems;
- - difficulty in identifying all third parties whose inability to
process Y2K date information may affect the Company;
- - the fact that the Company will have no control over the efforts of
material vendors, suppliers and other providers to address their Y2K
issues;
- - the availability, to the Company and third party suppliers, vendors and
other providers, of qualified professionals to analyze and remedy Y2K
problems;
- - the amount of programming which may be necessary to address Y2K issues;
- - the difficulty in projecting labor or consulting costs, particularly in
light of the fact that demand for Y2K remediation services will become
more intense as the year 2000 approaches; and
- - the effect of general economic conditions on the willingness of third
parties to make the expenditures necessary to address Y2K problems
which may affect the Company.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK SENSITIVE
INSTRUMENTS
The Company currently does not invest excess funds in derivative
financial instruments or other market rate sensitive instruments.
Page 16
<PAGE> 17
PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(d)
On October 9, 1996, the Company's Registration Statement on Form S-1
File No. 333-10213 was declared effective by the Securities and Exchange
Commission (the "IPO Registration Statement"). The IPO Registration Statement
registered a total of 2,723,623 shares of Common Stock issued and sold by the
Company and a total of 151,377 shares of Common Stock sold by certain
shareholders of the Company (collectively, the "Offering"). All of the shares
covered by the Registration Statement were sold upon termination of the Offering
on October 16, 1996 to an underwriting syndicate managed by William Blair &
Company, L.L.C., Donaldson, Lufkin & Jenrette Securities Corporation and
Jefferies and Company, Inc. The shares sold by the Company were sold at an
aggregate price of $43,577,968, netting $40,527,510 to the Company after
underwriters' discount of $3,050,458. The shares sold by the selling
shareholders were sold at an aggregate price of $2,422,032, netting $2,252,490
to the selling shareholders after underwriters' discount of $169,542. From the
effective date of the Registration Statement, the Company has incurred
approximately $994,233 in expenses in addition to the underwriters' discount
described above in connection with the registration, offering, issuance and sale
of the shares in the Offering, netting estimated proceeds from the Offering to
the Company of approximately $39.5 million.
None of such expenses were paid to any officer, director or 10% or
greater stockholder of the Company or and affiliate of any such persons. Since
the effective date of the Registration Statement, the Net Proceeds have been
applied to the following uses in the following estimated amounts:
<TABLE>
<S> <C>
Construction of buildings and facilities: $ ---------
---------------
Purchase and installation of equipment: $ 11,266,000
---------------
Purchase and improvement of real estate: $ 1,729,000
---------------
Acquisitions of other business (es): $ 20,024,000
---------------
Repayment of indebtedness: $ 2,834,000
---------------
Working Capital: $ ---------
---------------
Payment of accrued compensation: $ 3,680,000
---------------
</TABLE>
Page 17
<PAGE> 18
ITEM 5. OTHER INFORMATION
On August 20, 1998, the Company purchased the assets and business of
Aviant, which is located in Simi Valley, California, which specializes in
systems integration, including project management, complex network design,
network planning, simulation, implementation and support. The purchase price was
approximately $5.1 million in cash. The business combination was recorded using
the purchase method of accounting.
On November 4, 1998, the Company purchased the assets and business of
Clark, located in Los Angeles, California, which specializes in data warehouse
design and Year 2000 business risk assessment. The purchase price was
approximately $4.2 million, consisting of approximately $1.0 million in cash and
approximately $500,000 in newly-issued common stock payable at closing, and an
additional contingent payment of up to a maximum $810,000 in cash and
approximately $1.9 million in newly-issued common stock payable over a two year
period contingent on the achievement of certain performance benchmarks by the
acquired business. The acquisition will be recorded using the purchase method of
accounting.
Page 18
<PAGE> 19
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
10.19 Asset Purchase Agreement, dated August 20, 1998 among Superior
Consultant Holdings Corporation, Enterprise Consulting Group,
Inc., Whittaker Corporation and Aviant Information, Inc. (1)
10.20 Escrow Agreement, dated August 20, 1998 among Superior
Consultant Holdings Corporation, Enterprise Consulting Group,
Inc., Whittaker Corporation and Aviant Information, Inc. and
First of America, N.A. (1)
27* Financial Data Schedule for the Quarter Ended September 30,
1998
99.4 Press Release dated August 20, 1998 (1)
(b) Form 8-K
The Company filed a Current Report on Form 8-K, dated September 2, 1998
announcing the acquisition by the Company's wholly-owned subsidiary,
Enterprise Consulting Group, Inc., of substantially all the business
assets of Aviant Information, Inc., a healthcare consulting corporation
organized under the laws of California.
Form 8-K/A
The Company filed a Current Report on Form 8-K/A, dated November 2,
1998, relating to the Form 8-K dated September 2, 1998. The Current
Report on Form 8-K/A included required financial statements with
respect to Aviant Information, Inc. as of and for the period ended
October 31,1997, and as of and for the period ended July 31, 1998; as
well as pro forma financial information as of and for the six months
ended June 30, 1998 and for the year ended December 31, 1997,
presenting the historical results of the Company combined with Aviant
Information, Inc. and the pro forma adjustments as if the acquisition
had been made as of June 30, 1998 and at the beginning of each of the
periods presented.
- ------------------------
* Filed herewith
(1) Incorporated by reference from the Company's Form 8-K as filed with the
Securities and Exchange Commission on September 2, 1998.
Page 19
<PAGE> 20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Superior Consultant Holdings Corporation
Date: November 16, 1998 By: /s/ Richard D. Helppie, Jr.
----------------------------------
Richard D. Helppie, Jr,
President, Chief Executive Officer
(Principal Executive Officer)
Date: November 16, 1998 By: /s/ James T. House
----------------------------------
James T. House
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
Page 20
<PAGE> 21
Exhibit Index
-------------
Exhibit No. Description
- ----------- -----------
27 Financial Data Schedule
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from unaudited
financial statements for the third quarter ended September 30, 1998 contained in
the company's Form 10-Q and is qualified in its entirety by reference to such
report on form.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 59,701
<SECURITIES> 0
<RECEIVABLES> 36,659
<ALLOWANCES> (871)
<INVENTORY> 0
<CURRENT-ASSETS> 97,325
<PP&E> 17,789
<DEPRECIATION> (5,348)
<TOTAL-ASSETS> 128,348
<CURRENT-LIABILITIES> 10,162
<BONDS> 0
0
0
<COMMON> 103
<OTHER-SE> 117,331
<TOTAL-LIABILITY-AND-EQUITY> 128,348
<SALES> 85,303
<TOTAL-REVENUES> 85,303
<CGS> 0
<TOTAL-COSTS> 44,501
<OTHER-EXPENSES> 33,018
<LOSS-PROVISION> 279
<INTEREST-EXPENSE> 15
<INCOME-PRETAX> 11,527
<INCOME-TAX> 4,643
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 6,884
<EPS-PRIMARY> 0.67
<EPS-DILUTED> 0.65
</TABLE>
