<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended June 30, 1998 or
[ ] Transition Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number 000-21755
MASTECH CORPORATION
(Exact name of registrant as specified in its charter)
PENNSYLVANIA 25-1802235
------------ ----------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1004 McKee Road
Oakdale, Pennsylvania 15071
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (412) 787-2100
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, and (2) has been subject to such filing requirements
for the past 90 days.
Yes X No
--- ---
The number of shares of the registrant's Common Stock, par value $.01 per share,
outstanding as of June 30, 1998 was 48,983,734 shares.
<PAGE>
MASTECH CORPORATION
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 1998
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
PART I. FINANCIAL INFORMATION 3
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS:
CONSOLIDATED INCOME STATEMENTS FOR THE THREE AND SIX MONTH PERIODS ENDED
JUNE 30, 1998 AND JUNE 30, 1997 3
CONSOLIDATED BALANCE SHEETS AS OF JUNE 30, 1998 AND DECEMBER 31, 1997 4
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY AS OF JUNE 30, 1998 AND
DECEMBER 31, 1997 5
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30,
1998 AND JUNE 30, 1997 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS 11
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE
ABOUT MARKET RISK SENSITIVE INSTRUMENTS 14
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 15
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCCEEDS 15
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 15
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 15
ITEM 5. OTHER INFORMATION 16
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 16
SIGNATURES 17
EXHIBIT INDEX 18
</TABLE>
2
<PAGE>
PART1. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL INFORMATION
MASTECH CORPORATION
CONSOLIDATED INCOME STATEMENTS
(Dollars in Thousands Except Per Share Data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenues $92,584 $55,905 $174,170 $104,244
Cost of revenues 61,839 39,628 117,122 74,386
----------- ----------- ----------- -----------
Gross Profit 30,745 16,277 57,048 29,858
Selling, general and administrative 17,884 10,289 33,248 20,409
----------- ----------- ----------- -----------
Income from operations 12,861 5,988 23,800 9,449
Merger related expenses 3,212 -- 3,212 --
Other income (731) (361) (1,403) (767)
----------- ----------- ----------- -----------
Income before income taxes 10,380 6,349 21,991 10,216
Provision for income taxes 4,627 2,508 9,294 4,206
----------- ----------- ----------- -----------
Net income $ 5,753 $ 3,841 $ 12,697 $ 6,010
=========== =========== =========== ===========
Net income per common share, basic and diluted (1) $ 0.12 $ 0.08 $ 0.26 $ 0.13
=========== =========== =========== ===========
</TABLE>
(1) The income per common share includes a two-for-one stock split of the
common stock effected in the form of a stock dividend paid on April 10, 1998.
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
MASTECH CORPORATION
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
------------- -----------------
(Unaudited) (Audited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 11,587 $ 82,924
Investments 65,229 --
Accounts receivable, net 72,700 60,366
Unbilled receivables 3,900 1,829
Employee and related party advances 3,384 2,578
Prepaid and other assets 1,716 1,511
Deferred income taxes 2,720 2,154
---------- ----------
Total current assets 161,236 151,362
Net equipment and leasehold improvements 13,060 8,775
Intangible assets, net 1,846 1,923
---------- ----------
Total assets $176,142 $162,060
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Revolving credit facilities $ 0 $ 6,905
Accounts payable 6,130 5,319
Accrued payroll and related costs 24,795 17,949
Accrued income taxes 786 2,005
Other accrued liabilites 9,365 8,256
---------- ----------
Total current liabilities 41,076 40,434
Other long term liabilities 487 490
Deferred income taxes 1,006 1,710
Shareholders' equity:
Preferred stock, without par value:
20,000,000 shares authorized, 1 share
and 0 shares of Series A Preferred
Stock issued and outstanding,
respectively -- --
Common stock, par value $0.01 per share:
200,000,000 shares authorized,
48,983,734 and 48,789,800 shares
issued and outstanding, respectively 490 252
Additional paid-in capital 108,150 105,375
Retained earnings 26,433 14,722
Deferred compensation -- (258)
Currency translation adjustment (1,500) (665)
---------- ----------
Total shareholders' equity 133,573 119,426
---------- ----------
Total liabilities and shareholders' equity $176,142 $162,060
========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statments.
4
<PAGE>
MASTECH CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(Dollars in thousands)
<TABLE>
<CAPTION>
Common Stock Series A Preferred Additional
--------------------- -------------------- Paid-in
Shares Par Value Shares Par Value Capital
---------- --------- --------- --------- ----------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1997 48,789,800 $252 0 $ 0 $105,375
Net income -- -- -- -- --
Amortization of deferred
compensation -- -- -- -- --
Exercise of stock options,
includes effect of tax
benefit recognized 193,934 1 -- -- 2,513
Two-for-one stock split
effected in the form of a
stock dividend paid on
April 10, 1998 -- 237 -- -- --
Issuance of preferred stock -- -- 1 -- --
Non-cash merger costs -- -- -- -- 262
Dividends-paid by Quantum -- -- -- -- --
Currency translation
adjustment -- -- -- -- --
---------- ---- -- --- --------
Balance, June 30, 1998
(Unaudited) 48,983,734 $490 1 $-- $108,150
========== ==== == === ========
</TABLE>
<TABLE>
<CAPTION>
Currency Total
Retained Deferred Translation Shareholders'
Earnings Compensation Adjustment Equity
-------- ------------ ----------- -------------
<S> <C> <C> <C> <C>
Balance, December 31, 1997 $14,722 ($258) ($665) $119,426
Net income 12,697 -- -- 12,697
Amortization of deferred
compensation -- 258 -- 258
Exercise of stock options,
includes effect of tax
benefit recognized -- -- -- 2,514
Two-for-one stock split
effected in the form of a
stock dividend paid on
April 10, 1998 (237) -- -- --
Issuance of preferred stock -- -- -- --
Non-cash merger costs -- -- -- 262
Dividends-paid by Quantum (749) (750)
Currency translation
adjustment -- -- (835) (835)
------- ------ ------- --------
Balance, June 30, 1998
(Unaudited) $26,433 $ -- $(1,500) $133,573
======= ====== ======= ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
MASTECH CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Six Months Ended June 30,
-------------------------
1998 1997
---------- ----------
<S> <C> <C>
Operations:
Net income $ 12,697 $ 6,010
Adjustments to reconcile net income to cash
provided by operations:
Depreciation and amortization 1,461 599
Allowance for uncollectible accounts (12) 457
Deferred income taxes, net (1,316) (626)
Non-cash merger cost 262 --
Amortization of deferred compensation 258 260
Amortization of bond premium 134 --
Working capital items:
Accounts receivable and unbilled receivables (14,393) (13,592)
Advances (806) 1,437
Prepaid and other assets (205) (498)
Accounts payable 811 (519)
Accrued and other current liabilities 6,779 3,635
---------- ----------
Net cash flow from operations 5,670 (2,837)
---------- ----------
INVESTING ACTIVITIES:
Acquisitions, net of cash acquired 34 --
Additions to equipment and leasehold improvements (5,703) (2,720)
Purchase of investments (69,613) --
Sales of investments 4,250 --
---------- ----------
Net cash flow from investing activities (71,032) (2,720)
---------- ----------
FINANCING ACTIVITIES:
Net borrowings (payments) under revolving
credit facilties (6,905) 2,404
Proceeds from exercise of stock options 2,514 20
Dividends paid (749) (6,772)
---------- ----------
Net cash flow from financing activities (5,140) (4,348)
---------- ----------
Effect of currency translation on cash (835) 71
---------- ----------
Net change in cash and cash equivalents (71,337) (9,834)
Cash and cash equivalents, beginning of period 82,924 46,566
---------- ----------
Cash and cash equivalents, end of period $ 11,587 $ 36,732
========== ==========
Supplemental disclosure:
Cash payments for taxes $ 10,394 $ 4,223
========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements included herein
have been prepared by Mastech Corporation (the "Company") in accordance with
generally accepted accounting principles for the interim financial information
and Article 10 of Regulation S-X under the Securities and Exchange Act of 1934,
as amended. The consolidated financial statements as of and for the quarter
ended June 30, 1998 should be read in conjunction with the Company's
consolidated financial statements (and notes thereto) included in the Company's
Annual Report on Form 10-K for the year ended December 31, 1997. Accordingly,
the accompanying consolidated financial statements do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements. In the opinion of the Company's management, all
adjustments considered necessary for a fair presentation of the accompanying
consolidated financial statements have been included, and all adjustments are of
a normal and recurring nature. Operating results for the three months ended June
30, 1998 are not necessarily indicative of the results that may be expected for
the year ending December 31, 1998.
The use of generally accepted accounting principles requires management to make
estimates and assumptions that affect reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amount of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
2. INVESTMENTS
The Company accounts for its investments in accordance with Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities". The Company has determined that all of its
investments are to be classified as available-for-sale and recorded at fair
value.
3. STOCK SPLIT
On March 17, 1998, the Company's Board of Directors declared a two-for-one
stock split that was effected in the form of a stock dividend paid on April 10,
1998 to shareholders of record on March 27, 1998. All share and per share
amounts included in the Company's consolidated financial statements have been
retroactively restated to reflect the split for all periods presented.
4. COMPREHENSIVE INCOME
During 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS
No. 130"), which the Company adopted as of January 1, 1998. SFAS No. 130
establishes new rules for the reporting and display of comprehensive income and
its components. SFAS No. 130 requires companies to report all changes in equity
during a period, except those resulting from investment by owners and
distribution to owners, in a financial statement or footnote disclosure for the
period in which they are recognized. The Company has chosen to disclose
comprehensive income, which encompasses net income and foreign currency
translation adjustments, in the following table.
7
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
(dollars in thousands)
Net income $5,753 $3,841 $12,697 $6,010
Other comprehensive gain (loss):
Foreign currency translation adjustment (886) 4 (835) 71
-------- ------- ------- ------
$4,867 $3,845 $11,862 $6,081
======== ======= ======= ======
</TABLE>
The adoption of SFAS No. 130 had no impact on the Company's net income or
shareholders' equity.
5. RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures About Segments of an
Enterprise and Related Information" (SFAS No. 131), which requires the use of
the "management approach" model for segment reporting. The management approach
model is based on the way a company's management organizes segments within the
company for making operating decisions and assessing performance. Reportable
segments are based on products and services, geography, legal structure,
management structure or any other manner in which management segregates a
company. SFAS No. 131 is effective for financial statements issued for periods
beginning after December 15, 1997. The Company will adopt SFAS No. 131 as a
part of its December 31, 1998 year-end financial statements.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" (SFAS No. 133), which establishes accounting and
reporting standards for derivative instruments and hedging activities. SFAS No.
133 is effective for periods after June 15, 1999. Management does not anticipate
that the adoption of this statement will have a significant effect on the
Company's financial position.
6. QUANTUM ACQUISITION
On June 1, 1998, the Company acquired all of the issued and outstanding capital
stock of Quantum Information Resources Limited, a Canadian corporation
("Quantum") pursuant to a business combination the terms of which were contained
in that certain Combination and Exchange Agreement dated June 1, 1998 (the
"Exchange Agreement"). Pursuant to the Exchange Agreement the shareholders of
Quantum received 1,623,000 exchangeable non-voting shares of Quantum which are
convertible into the same number of shares of the Company's common stock (the
"Exchangeable Shares") and PNC Bank, National Association received 1 share of
Series A Preferred Stock, as trustee for the shareholders of Quantum, pursuant
to which such shareholders were granted the right to vote the Company common
stock underlying the Exchangeable Shares. Based on representations made by the
Quantum shareholders in the Exchange Agreement, the Company issued these
securities pursuant to the exemption from registration provided by Section 4(2)
of the Securities Act of 1933, as amended (the "Securities Act").
Quantum provides information technology services primarily in Canada and parts
of the United States. The business combination was accounted for as a pooling of
interests and, accordingly, the Company's consolidated financial statements have
been restated to include results for Quantum for all periods presented. Separate
revenues, net income and changes in shareholders' equity, prior to the business
combination, are presented in the following table:
8
<PAGE>
<TABLE>
<CAPTION>
Two Months Ended May 31, Five Months Ended May 31,
-------------------------- -------------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
(dollars in thousands)
Revenues
Mastech $51,530 $29,629 $121,298 $67,160
Quantum 8,363 7,286 20,181 18,094
------- -------- -------- -------
Total $59,893 $36,915 $141,479 $85,254
======= ======== ======== =======
Net income
Mastech $ 4,585 $ 2,406 $ 11,093 $ 4,715
Quantum 492 311 928 171
------- -------- -------- -------
Total $ 5,077 $ 2,717 $ 12,021 $ 4,886
======= ======== ======== =======
Other changes in stockholders' equity
Foreign currency translation adjustment:
Mastech ($655) ($1) ($489) $ 56
Quantum -- -- (115) 10
------- -------- -------- -------
Total ($655) ($1) ($604) $ 66
======= ======== ======== =======
</TABLE>
7. ACQUISITION RELATED EXPENSES
In connection with the acquisition of Quantum, $3.2 million or $0.06 per share
of acquisition-related costs and expenses were incurred and have been charged to
expense in the second quarter of 1998.
9
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors of Mastech Corporation:
We have reviewed the accompanying consolidated balance sheet of Mastech
Corporation (a Pennsylvania Corporation) and subsidiaries as of June 30, 1998,
and the related consolidated statements of income and shareholders' equity for
the three month and six month periods ended June 30, 1998 and 1997, and
consolidated statements of cash flows for the six month periods ended June 30,
1998 and 1997. These consolidated financial statements are the responsibility of
the Company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying consolidated financial statements, referred to
above, for them to be in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Pittsburgh, Pennsylvania
July 24, 1998
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the consolidated
financial statements and notes thereto appearing elsewhere in this report. As
used herein, "Mastech" or the "Company" shall mean Mastech Corporation and each
of its consolidated subsidiaries.
OVERVIEW
Mastech Corporation was incorporated in Pennsylvania on November 12, 1996.
Mastech Systems Corporation, a Pennsylvania corporation through which the
business of the Company has been conducted since its inception in July 1986, is
an indirect, wholly owned subsidiary of the Company.
Mastech's revenues are derived from fees paid by clients for professional
services. Historically, a substantial majority of the Company's projects have
been client-managed. On client-managed projects, Mastech provides professional
services as a member of the project team on a time-and-materials basis. The
Company recognizes revenues on time-and-materials projects as the services are
performed. On Mastech-managed projects, Mastech assumes responsibility for
project management and bills the client on a time-and-materials or fixed-price
basis. Fixed-price contracts are recognized by the percentage of completion
method. Revenues from international operations do not include revenues
generated through offshore software development centers on U.S. client
engagements.
Mastech's most significant cost is its personnel expense, which consists
primarily of salaries and benefits of the Company's billable personnel. The
number of IT professionals assigned to projects may vary depending on the size
and duration of each engagement. Moreover, project terminations, completions
and scheduling delays may result in periods when personnel are not assigned to
active projects. Mastech manages its personnel costs by closely monitoring
client needs and basing personnel increases on specific project engagements.
While the number of IT professionals may be adjusted to reflect active projects,
the Company must maintain a sufficient number of professionals to respond to
demand for the Company's services on both existing projects and new engagements.
Mastech sells its services to large and medium-sized organizations. The
Company's sales force is organized to meet the needs of the marketplace through
four primary divisions: (i) the U.S. Professional Services Division; (ii) the
Solutions Division; (iii) the Enterprise Package Solutions Division; and (iv)
the International Division.
The U.S. Professional Services Division includes six geographic regions, each of
which is directed by a Regional Director. Each region includes multiple new
business development managers. These individuals use a proprietary database of
several thousand prospects to telemarket Mastech's services nationally. The
Company subsequently sends interested prospective clients a written proposal
providing information about the Company, its approach and methodology,
schedules, team members, pricing and terms.
The U.S. Professional Services Division also focuses on developing national and
global relationships with major systems integrators such as EDS, IBM, KPMG Peat
Marwick, Ernst & Young and Oracle. Mastech assists these integrators in meeting
their customers' needs by providing specialized technical expertise and
complementary capabilities such as offshore development.
The Solutions Division is responsible for securing and managing Mastech-managed
engagements. This division has a dedicated sales and marketing team responsible
for generating and qualifying leads and developing detailed project estimates
and proposals. This team sells directly to large and medium-sized organizations
and also partners with large systems integrators.
The Enterprise Package Solutions Division manages engagements and provides IT
professionals trained in ERP implementation services. This division works
directly with end-user clients and also as partners with both the ERP software
vendors and systems integrators on teamed implementation efforts.
11
<PAGE>
The International Division operates through offices in eight different
countries. Each office is supervised by a Country Manager and supported by
dedicated sales personnel that sell directly to new clients using an approach
similar to the Company's U.S. sales approach. Additionally, these offices focus
on leveraging Mastech's existing relationships with its U.S.-based multinational
clients.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 1998
COMPARED TO THREE MONTHS ENDED JUNE 30, 1997
Revenues. The Company's revenues increased 65.6%, or $36.7 million to $92.6
million for the second quarter of 1998 from $55.9 million for the second quarter
of 1997. This growth in revenues was primarily attributable to the continued
market penetration by the U.S. Professional Services Division, the Enterprise
Package Solutions Division and continued expansion into international markets.
Gross Profit. Gross profit consists of revenues less cost of revenues. Cost of
revenues consists primarily of salaries and employee benefits for billable IT
professionals and the associated travel and relocation costs of these
professionals, as well as the cost of the independent contractors used by the
Company. Gross profit increased 88.8% to $30.7 million for the second quarter of
1998 from $16.3 million for the second quarter of 1997. Gross profit as a
percentage of revenues for the current quarter of 33.2% increased when compared
with 29.1% for second quarter in 1997. The primary reasons for the increase in
gross profits as a percentage of revenues were higher margins in the Enterprise
Package Solutions Division, U.S. Professional Services Division and Solutions
Division.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses consist of costs associated with the Company's sales and
marketing efforts, executive management, finance and human resource functions,
facilities and telecommunication costs and other general overhead expenses.
Selling, general and administrative expenses increased 73.8%, or $7.6 million to
$17.9 million in the second quarter of 1998 from $10.3 million in the second
quarter of 1997. The increase in selling, general and administrative expenses
reflects the Company's continued investment in infrastructure and in the
initiatives required to implement the Company's marketing strategies. These
costs include the development of additional service offerings, the expansion of
its global recruiting capabilities, the opening of additional international
offices, the establishment of training centers and the continued expansion of
its offshore software development centers.
Interest and Other Income (Expense), Net. Other income was $731,000 for the
second quarter of 1998 compared to $361,000 for the second quarter of 1997. This
increase in other income is the result of increased interest income from the
investment of the net proceeds from the Company's secondary offering of common
stock completed in December 1997.
RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 1998
COMPARED TO SIX MONTHS ENDED JUNE 30, 1997
Revenues. The Company's revenues increased 67.1%, or $70.0 million to $174.2
million for the six months ended June 30, 1998 from $104.2 million for the six
months ended June 30, 1997. This growth can be attributed to the continued
market penetration by the U.S. Professional Services Division, the Enterprise
Package Solutions Division and continued expansion into international markets.
Gross Profit. Gross profit consists of revenues less cost of revenues. Cost of
revenues consists primarily of salaries and employee benefits for billable IT
professionals and the associated travel and relocation costs of these
professionals, as well as the cost of the independent contractors used by the
Company. Gross profit increased 91% to $57.1 million for the six months ended
June 30, 1998 compared with $29.9 million for the same period in 1997. Gross
profit as a percentage of revenues for the current six-month period of 32.8%
increased when compared with 28.7% for the same period in 1997. The primary
reasons for the increase in gross profits as a percentage of revenues were
higher margins in the U.S. Professional Services Division, Enterprise Package
Solutions Division, and Solutions Division.
12
<PAGE>
Selling, General and Administrative Expenses. Selling, general and
administrative expenses consist of costs associated with the Company's sales and
marketing efforts, executive management, finance and human resource functions,
facilities and telecommunication costs and other general overhead expenses.
Selling, general and administrative expenses increased 62.7%, or $12.8 million
to $33.2 million for the six month period ended June 30, 1998 from $20.4 million
for the prior year period. The increase in selling, general and administrative
expenses reflects the Company's continued investment in infrastructure and in
the initiatives required to implement the Company's marketing strategies. These
costs include the development of additional service offerings, the expansion of
its global recruiting capabilities, the opening of additional international
offices, the establishment of training centers and the continued expansion of
its offshore software development centers.
Interest and Other Income (Expense), Net. Other income was $1.4 million for the
year to date period ended June 30, 1998 compared to $767,000 for the same period
in 1997. This increase in other income is the result of increased interest
income from the investment of the net proceeds from the Company's secondary
offering of common stock completed in December 1997.
Liquidity and Capital Resources
In December 1997, the Company completed the registration of 3,000,000 pre-split
shares of the Company's common stock for sale to the public. The net proceeds to
the Company of the offering were $51.3 million after deducting underwriting
discounts, commissions and offering expenses paid by the Company. In addition,
the net proceeds to the Company, generated from its initial public offering in
December 1996, were approximately $45.6 million, after deducting underwriting
discounts and commissions and offering expenses paid by the Company. The
proceeds from both offerings have been used primarily for working capital and
other general purposes. The remaining proceeds have been temporarily invested
in short-term, investment grade, interest bearing securities.
The Company has and will use these proceeds to develop new services, to expand
existing operations, including offshore software development operations, for
possible acquisitions of related businesses, and for general corporate purposes,
including working capital. Management currently anticipates that the proceeds
from these offerings together with the existing sources of liquidity and cash
generated from operations will be sufficient to satisfy its cash needs at least
through the next twelve months.
Historically, the Company has financed its working capital requirements through
internally generated funds and with the proceeds from the aforementioned
offerings. The Company's financial statements reflect cash flow provided by
operations of approximately $5.7 million for the six months ended June 30, 1998,
and cash flow used by operations of $2.8 million for the same period in 1997.
During the second quarter of 1998, the Company recorded its net purchase of
investments of $65.4 million. These investments are classified as available-for-
sale and recorded at fair value.
Capital expenditures for the six months ended June 30, 1998 and 1997 were
approximately $5.7 million and $2.7 million, respectively. During the six-month
period ended June 30, 1998 and 1997, the Company spent approximately $2.5
million and $1.7 million, respectively on computer and related equipment to
support its technical, consulting and administrative functions. The Company also
spent approximately $2.4 million and $938,000 during the same period in 1998 and
1997, respectively, in connection with the buildout and other development of the
infrastructure for its offshore software development and training facilities in
India. During the next twelve months, the Company expects to incur approximately
$2.0 million in remaining costs to license and implement its new management
information system. A portion of this cost will be expensed.
Effective May 30, 1997, the Company replaced an existing revolving credit
facility with a new $25.0 million revolving credit facility with PNC Bank,
National Association (the "Facility"). The Facility bears interest at a rate
equal to LIBOR plus 1.0% or prime at the Company's option and borrowings are
unsecured. The Facility contains certain restrictive covenants and financial
ratio requirements which would limit distributions to shareholders and
additional borrowings. The Company did not borrow against this Facility during
the six month period ended June 30, 1998.
13
<PAGE>
During the first quarter of 1998, Mascot Systems had aggregate borrowings of
approximately $1.7 million outstanding under revolving credit agreements with
ICICI Banking Corporation Limited and IndusInd Bank Limited, both of India.
Interest rates charged on these borrowings range from 18.75% to 19.25% per year.
These borrowings were repaid by the Company in May 1998.
The Company does not believe that inflation had a significant impact on the
Company's results of operations for the periods presented. On an ongoing basis,
the Company attempts to minimize any effects of inflation on its operating
results by controlling operating costs and, whenever possible, seeking to insure
that billing rates reflect increases in costs due to inflation.
The Company invoices its clients in the local currency of the country in which
the client is located. Gains and losses as a result of fluctuations in foreign
currency exchange rates have not had a significant impact on the results of
operations.
Year 2000
The "Year 2000" issue concerns the potential exposures related to the automated
generation of business and financial misinformation resulting from the use of
computer programs which have been written using two digits, rather than four, to
define the applicable year of business transactions. The Company has evaluated,
and is continuing to evaluate, the potential cost associated with becoming Year
2000 compliant. The Company believes that its principal staffing and financial
systems, which are licensed from and maintained by third-party software
development companies, are Year 2000 compliant. The Company is currently in the
process of selecting additional staffing and financial systems which management
expects to be Year 2000 compliant. Management does not anticipate that the
remaining costs associated with assuring that its internal systems will be Year
2000 compliant will be material to its business, operations or financial
condition.
The Company is in the process of conducting a risk evaluation and assessment
study to determine the preparedness level of customers, vendors, and other
service providers for the Year 2000 and the subsequent impact on the Company.
The Company will take such actions as management deems appropriate based on the
results of the review. The Company expects to incur internal staff costs as well
as consulting and other expenses related to the risk evaluation and assessment
project. Cost estimates for the project are not yet available.
Cautionary Statement for Purposes of the "Safe Harbor" Provisions
of the Private Securities Litigation Reform Act of 1995
The statements contained in the section captioned Management's Discussion and
Analysis of Financial Condition and Results of Operations which are not
historical are "forward-looking statements" within the meaning of Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended. These forward-looking statements represent the
Company's present expectations or beliefs concerning future events. The Company
cautions that such statements are qualified by important factors that could
cause actual results to differ materially from those in the forward-looking
statements including statements pertaining to future uses of the IPO proceeds,
the financing of the Company's working capital requirements and hedging of any
market risk sensitive instruments. Results actually achieved thus may differ
materially from expected results included in these statements.
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 for the purpose of
managing its foreign currency exchange rate risk.
14
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCCEEDS
In December 1996, Mastech completed the initial public offering of its Common
Stock (Registration Number 33-14169). The net proceeds to the Company from the
sale of the 3,400,000 pre-split shares of Common Stock offered by the Company
(after deducting underwriting discounts, commissions and offering expenses paid
by the Company) were approximately $45.6 million. The Company submitted its
initial Form SR for filing with the Securities and Exchange Commission on March
20, 1997 reporting for the period from December 16, 1996 (the effective date of
the Company's registration statement for its initial public offering) through
March 16, 1997. The following table reflects, as of June 30, 1998 and for each
of the three month periods ended, an estimate of the amount of net offering
proceeds received by the Company from its initial public offering used for each
of the purposes listed below:
<TABLE>
<CAPTION>
(dollars in thousands)
12/31/96 3/31/97 6/30/97 9/30/97 12/31/97 3/31/98 6/30/98 Total
-------- ------- ------- ------- -------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Tax payments $ -- $3,000 $1,900 $2,800 $3,100 $2,300 $ -- $13,100
Other working capital items 820 2,180 950 -- 3,900 1,200 -- 9,050
-------- ------- ------- ------- -------- ------- ------- -------
Total working capital items 820 5,180 2,850 2,800 7,000 3,500 -- 22,150
======== ======= ======= ======= ======== ======= ======= =======
S-corporation dividend -- -- 6,300 -- -- -- -- 6,300
Subsidiary loans -- -- -- 4,050 -- 3,000 -- 7,050
Acquisition of Asia Pacific
Computer consultants -- -- -- -- 3,000 -- -- 3,000
-------- ------- ------- ------- -------- ------- ------- -------
$ 820 $5,180 $9,150 $6,850 $10,000 $6,500 -- $38,500
======== ======= ======= ======= ======== ======= ======= =======
</TABLE>
On June 1, 1998, the Company acquired all of the issued and outstanding capital
stock of Quantum Information Resources Limited, a Canadian corporation
("Quantum") pursuant to a business combination the terms of which were
contained in that certain Combination and Exchange Agreement dated June 1, 1998
(the "Exchange Agreement"). Pursuant to the Exchange Agreement the shareholders
of Quantum received 1,623,000 exchangeable non-voting shares of Quantum which
are convertible into the same number of shares of the Company's common stock
(the "Exchangeable Shares") and PNC Bank, National Association received 1 share
of Series A Preferred Stock, as trustee for the shareholders of Quantum,
pursuant to which such shareholders were granted the right to vote the Company
common stock underlying the Exchangeable Shares. Based on representations made
by the Quantum shareholders in the Exchange Agreement, the Company issued these
securities pursuant to the exemption from registration provided by Section 4(2)
of the Securities Act of 1933, as amended (the "Securities Act").
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Annual Meeting of the Shareholders was held on June 1, 1998.
Only holders of common stock of record at the close of business on
March 27, 1998 were entitled to notice of and to vote at the
Annual Meeting. As of that date, the Company had 23,669,476 shares
of common stock outstanding.
15
<PAGE>
(c) Matters voted upon:
Proposal 1 - Election of Ashok Trivedi and Ed Yourdon to the
Board of Directors to hold office for a three-year term to
expire in the year 2001. Votes for the election of Ashok Trivedi
were cast in the following manner: 20,837,886 shares for and
6,455 shares withheld authority. Votes for the election of Ed
Yourdon were cast in the following manner: 20,838,186 shares for
and 6,155 shares withheld authority.
Proposal 2 - To approve an Amendment to the Company's 1996
Incentive Stock Plan. Votes for Proposal 2 were cast in the
following manner: 19,513,369 shares for, 728,289 shares against,
3,516 shares abstained, and no broker non-votes.
ITEM 5. OTHER INFORMATION
Government Regulation of Immigration
The Company recruits its IT professionals on a global basis and, therefore, must
comply with the immigration laws in the countries in which it operates,
particularly the U.S. Over 90% of Mastech's IT professionals are citizens of
other countries, with most of those in the U.S. working under H-1B temporary
visas. Under current law, there is a statutory limit of 65,000 new H-1B visas
that may be issued in any government fiscal year. This limit was reached in May
of the current federal fiscal year which ends on September 30, 1998. If the
Company is unable to obtain H-1B visas for its employees in sufficient
quantities or at a sufficient rate for a significant period of time, the
Company's business, operating results and financial condition could be
materially adversely affected.
There are, however, motions before the U.S. Congress to pass legislation that
would significantly increase the quota of H-1B temporary visas for the current
and subsequent federal fiscal years.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
The following exhibits are being filed with this report:
Exhibit Number Description Page
- ------------- ----------- ----
11.1 Statement regarding computation of per share earnings. 19
27 Financial Data Schedule 20
(b) Reports on Form 8-K:
The Company did not file any Current Report on Form 8-K during the
quarter ended June 30, 1998.
16
<PAGE>
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.
MASTECH CORPORATION
(REGISTRANT)
Dated: August 14, 1998 /s/ Sunil Wadhwani
Co-Chairman and Chief Executive Officer
Dated: August 14, 1998 /s/ Jeffrey McCandless
Vice President, Finance
17
<PAGE>
EXHIBIT INDEX
Exhibit Number Description Page
- -------------- ----------- ----
11.1 Statement regarding computation of per share earnings. 19
27 Financial Data Schedule 20
<PAGE>
[EXHIBIT 11.1]
MASTECH CORPORATION
CALCULATION OF PER SHARE EARNINGS
(Dollars in thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
For the Three Months Ended June 30,
----------------------------------
1998 1997
---- ----
<S> <C> <C>
Basic earnings per share:
Net income $5,753 $3,841
=========== ==========
Divided by:
Weighted average common shares 48,972,618 44,933,411
=========== ==========
Basic earnings per share $0.12 $0.08
=========== ==========
Diluted earnings per share:
Net income $5,753 $3,841
=========== ==========
Divided by the sum of:
Weighted average common shares 48,972,618 44,933,411
Diluted effect of common stock equivalents 837,418 266,765
----------- ----------
Dilutive average common shares 48,809,936 45,200,176
=========== ==========
Diluted earnings per share $0.12 $0.08
=========== ==========
<CAPTION>
For the Six Months Ended June 30,
--------------------------------
1998 1997
---- ----
<S> <C> <C>
Basic earnings per share:
Net income $12,697 $6,010
=========== ==========
Divided by:
Weighted average common shares 48,931,894 44,932,812
=========== ==========
Basic earnings per share $0.26 $0.13
=========== ==========
Diluted earnings per share:
Net income $12,697 $6,010
=========== ==========
Divided by the sum of:
Weighted average common shares 48,931,894 44,932,812
Diluted effect of common stock equivalents 858,425 212,294
----------- ----------
Dilutive average common shares 49,790,319 45,145,106
=========== ==========
Diluted earnings per share $0.26 $0.13
=========== ==========
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS INCLUDED IN THE FORM 10-Q AND IS QUALIFIED IN
ITS ENTIRETY TO REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<MULTIPLIER> 1,000
<S> <C> <C> <C>
<PERIOD-TYPE> 6-MOS 6-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1998 DEC-31-1997
<PERIOD-START> JAN-01-1997 JAN-01-1998 JAN-01-1997
<PERIOD-END> JUN-30-1997 JUN-30-1998 DEC-31-1997
<CASH> 36,732 11,587 82,924
<SECURITIES> 0 65,229 0
<RECEIVABLES> 46,144 77,803 63,410
<ALLOWANCES> 1,132 1,203 1,215
<INVENTORY> 0 0 0
<CURRENT-ASSETS> 87,243 161,236 151,362
<PP&E> 8,374 16,966 11,263
<DEPRECIATION> 2,119 3,906 2,488
<TOTAL-ASSETS> 93,498 176,142 162,060
<CURRENT-LIABILITIES> 35,292 41,076 40,434
<BONDS> 0 0 0
0 0 0
0 0 0
<COMMON> 233 490 252
<OTHER-SE> 55,444 133,083 119,174
<TOTAL-LIABILITY-AND-EQUITY> 93,498 176,142 162,060
<SALES> 104,244 174,170 240,448
<TOTAL-REVENUES> 104,244 174,170 240,448
<CGS> 74,386 117,122 167,685
<TOTAL-COSTS> 94,795 150,370 214,343
<OTHER-EXPENSES> 258 258 518
<LOSS-PROVISION> 312 333 1,000
<INTEREST-EXPENSE> (767) (1,403) (1,193)
<INCOME-PRETAX> 10,216 21,991 27,298
<INCOME-TAX> 4,206 9,294 11,231
<INCOME-CONTINUING> 6,010 12,697 16,067
<DISCONTINUED> 0 0 0
<EXTRAORDINARY> 0 0 0
<CHANGES> 0 0 0
<NET-INCOME> 6,010 12,697 16,067
<EPS-PRIMARY> 0.13 0.26 0.35
<EPS-DILUTED> 0.13 0.26 0.35
</TABLE>
