<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-Q
(Mark One)
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to _________
Commission file number 000-22327
PSW TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
Delaware 74-2796054
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
6300 Bridgepoint Parkway, Building 3, Suite 200, Austin Texas 78730
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (512) 343-6666
Indicate by check x whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes__X__ No_____
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date: 8,861,907 shares of the
Company's Common Stock, $.01 par value, were outstanding as of October 31,
1997.
<PAGE>
PSW TECHNOLOGIES, INC.
Index to September 30, 1997, Form 10-Q
PAGE
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements 3
Condensed Balance Sheets -- September 30, 1997
and December 31, 1996 3
Condensed Statements of Operations -- Three Months
and Nine Months Ended September 30, 1997 and 1996 4
Condensed Statements of Cash Flows -- Nine Months
Ended September 30, 1997 and 1996 5
Notes to Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
Part II -- OTHER INFORMATION
Item 1. Legal Proceedings 17
Item 2. Changes in Securities 17
Item 3. Defaults upon Senior Securities 17
Item 4. Submission of Matters to a Vote of Security Holders 17
Item 5. Other Information 17
Item 6. Exhibits and Reports on Form 8-K 17
Signatures 19
<PAGE>
PART 1--FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PSW TECHNOLOGIES, INC.
CONDENSED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1997 1996
(UNAUDITED)
------------- ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents......................................................... $ 1,350 $ 3,182
Investments....................................................................... 21,224 --
Accounts receivable, net of allowance for doubtful accounts of $165 and $120 at
September 30, 1997 and December 31, 1996, respectively.......................... 7,966 6,118
Unbilled revenue under client contracts........................................... 138 244
Prepaid expenses and other current assets......................................... 240 603
------------- ------------
Total current assets.............................................................. 30,918 10,147
Property and equipment, net....................................................... 3,502 1,796
------------- ------------
Total assets...................................................................... $ 34,420 $ 11,943
------------- ------------
------------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Note payable to bank.............................................................. $ -- $ 5,125
Due to related party.............................................................. -- 581
Accounts payable and accrued expenses............................................. 3,632 2,566
Deferred revenue.................................................................. 102 227
Income taxes...................................................................... 554 --
Total current liabilities......................................................... 4,288 8,499
Deferred income taxes............................................................. 25 --
Stockholders' equity:
Preferred stock, par value $.01 per share, 1,000,000 shares authorized and none
issued and outstanding.......................................................... -- --
Common stock, par value $.01 per share, 34,000,000 shares authorized and 8,861,570
shares issued and outstanding at September 30, 1997 and 5,538,463 shares issued
and outstanding at December 31, 1996............................................. 88 55
Additional paid-in capital........................................................ 29,174 4,187
Deferred compensation............................................................. (382) (641)
Unrealized loss on investments.................................................... (52) --
Retained earnings (accumulated deficit)........................................... 1,279 (157)
------------- ------------
Total stockholders' equity........................................................ 30,107 3,444
------------- ------------
Total liabilities and stockholders' equity........................................ $ 34,420 $ 11,943
------------- ------------
------------- ------------
</TABLE>
See accompanying notes.
<PAGE>
PSW TECHNOLOGIES, INC.
CONDENSED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------- --------------------
1997 1996 1997 1996
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Revenue..................................................................... $ 11,258 $ 7,737 $ 32,267 $ 21,224
Operating expenses:
Technical staff........................................................... 5,711 4,287 16,445 11,584
Selling and administrative staff.......................................... 2,113 1,299 6,087 3,727
Other expenses............................................................ 1,946 1,417 5,825 3,834
Special compensation expense.............................................. 71 655 259 655
--------- --------- --------- ---------
Total operating expenses.................................................... 9,841 7,658 28,616 19,800
--------- --------- --------- ---------
Income from operations...................................................... 1,417 79 3,651 1,424
Interest income (expense), net.............................................. 264 (59) 161 (103)
--------- --------- --------- ---------
Income before provision for income taxes.................................... 1,681 20 3,812 1,321
Provision for income taxes:
Nonrecurring charge for termination of Subchapter S....................... -- -- 1,200 --
Selection C Corporation................................................... 570 -- 670 --
--------- --------- --------- ---------
Total provision for income taxes............................................ 570 -- 1,870 --
--------- --------- --------- ---------
Net income................................................................ $ 1,111 $ 20 $ 1,942 $ 1,321
--------- --------- --------- ---------
--------- --------- --------- ---------
Earnings per share.......................................................... $ 0.11
Pro forma information: ---------
---------
Historical income before provision for income taxes....................... $ 20 $ 3,812 $ 1,321
Pro forma provision for income taxes...................................... $ 8 $ 1,380 $ 502
Pro forma net income........................................................ $ 12 $ 2,432 $ 819
Pro forma earnings per share................................................ $ -- $ 0.30 $ 0.12
Weighted average common shares and equivalents outstanding.................. 10,275 6,881 8,189 6,881
</TABLE>
See accompanying notes.
<PAGE>
PSW TECHNOLOGIES, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER 30,
---------------------
1997 1996
---------- ---------
<S> <C> <C>
Operating activities
Net income............................................................................... $ 1,942 $ 1,321
Adjustments to reconcile net income to net cash provided by operating activities:
Special compensation................................................................. 259 655
Depreciation and amortization........................................................ 597 294
Bad debt expense..................................................................... 45 --
Changes in operating assets and liabilities:
Accounts receivable.................................................................. (1,893) 1,894
Due to/from related party............................................................ (258) --
Unbilled revenue under customer contracts............................................ 106 (5)
Prepaid expenses and other current assets............................................ 40 32
Accounts payable and accrued expenses................................................ 1,003 258
Deferred revenue..................................................................... (125) 101
Income taxes......................................................................... 694 --
--------- ---------
Net cash provided by operating activities.......................................... 2,410 4,550
Investing activities
Purchase securities...................................................................... (21,277) --
Acquisition of property and equipment.................................................... (2,410) (1,092)
--------- ---------
Net cash used in investing activities.............................................. (23,687) (1,092)
Financing activities
Repayments of line of credit............................................................. (5,125) --
Capital contributions, net............................................................... -- (3,488)
Dividend to S corporation stockholders................................................... (1,400) --
Issuance of common stock................................................................. 25,970 --
--------- ---------
Net cash provided by (used in) financing activities................................ 19,445 (3,488)
Net decrease in cash....................................................................... (1,832) (30)
Cash and cash equivalents, beginning of period............................................. 3,182 34
--------- ---------
Cash and cash equivalents, end of period................................................... $ 1,350 $ 4
--------- ---------
--------- ---------
Non-cash activities:
Unrealized loss on investments........................................................... $ 52 $ --
--------- ---------
--------- ---------
Reduction of income taxes payable associated with the exercise of stock options.......... $ 115 $ --
--------- ---------
--------- ---------
</TABLE>
See accompanying notes.
<PAGE>
PSW TECHNOLOGIES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
1. BASIS OF PRESENTATION
PSW Technologies, Inc. (the "Company") commenced operations as a
separate, stand-alone corporation effective October 1, 1996. In connection
with the Company's formation, Pencom Systems Incorporated ("Pencom")
contributed its software services business (the "Software Division") and a
portion of a software contract that had previously been allocated to other
operations of Pencom to the Company in exchange for stock and other
consideration. This exchange has been accounted for in a manner similar to a
pooling of interests and, accordingly, the accompanying financial statements
include the operations of the Software Division and the aforementioned
portion of the software services contract allocated to other operations of
Pencom for all periods presented.
The accompanying unaudited financial statements have been prepared by the
Company pursuant to the rules and regulations of the Securities and Exchange
Commission (the "SEC") regarding interim financial reporting. Accordingly,
they do not include all the information and notes required by generally
accepted accounting principles for complete financial statements and should
be read in conjunction with the financial statements and notes thereto for
the year ended December 31, 1996 included in the Company's Registration
Statement on Form S-1. The accompanying financial statements reflect
adjustments, all of which are of a normal recurring nature, which are, in the
opinion of management, necessary for a fair presentation. The results for
interim periods are not necessarily indicative of full year results.
2. SIGNIFICANT ACCOUNTING POLICIES
ADOPTION OF ACCOUNTING PRONOUNCEMENTS
As described below, the Company adopted Statement of Financial Accounting
Standards No. 115 (see Note 3) and No. 109 (see Note 4) during the quarter
ended June 30, 1997.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that could affect the financial statements and accompanying
notes. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENTS
In February 1997, the Financial Accounting Standards Board issued
Statement No. 128, Earnings Per Share, which is required to be adopted for
financial statements issued for periods ending after December 15, 1997. At
that time, the Company will be required to change the method currently used
to compute earnings per share and to restate all prior periods. Under the new
requirements, the presentation of primary earnings per share is replaced with
basic earnings per share, the calculation of which excludes the dilutive
effect of common stock equivalents. The impact is expected to result in a
basic earnings per share for the quarter ended September 30, 1997 and 1996 of
$.13 and $.00. Basic pro forma earnings per share for the nine months ended
September 30, 1997 and 1996 is expected to be $.35 and $.15, respectively.
In June 1997, the Financial Accounting Standards Board issued Statement
No. 130, Reporting Comprehensive Income ("SFAS No. 130"). This statement
establishes standards for reporting and display of comprehensive income and
its components in a full set of general-purpose financial statements.
Comprehensive income includes all revenues, expenses, gains, and losses
recognized during the period regardless of whether they are considered to be
results of operations of the period. This statement is effective for fiscal
years beginning after December 15, 1997. The Company does not expect SFAS No.
130 to have a material impact on the financial statements.
<PAGE>
PSW Technologies, Inc.
Notes to Condensed Financial Statements
September 30, 1997
In June 1997, the Financial Accounting Standards Board issued Statement
No. 131, ("SFAS No. 131"), Disclosures about Segments of an Enterprise and
Related Information. SFAS No. 131 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 shareholders. It also establishes standards for related disclosures
about products and services, geographic areas, and major customers. SFAS No.
131 is effective for financial statements for fiscal years beginning after
December 15, 1997. The Company is currently evaluating the impact of the SFAS
No. 131 for relevant disclosures.
3. INVESTMENTS
Effective June 10, 1997, the Company adopted Statement of Financial
Accounting Standards No. 115, Accounting for Certain Investments in Debt and
Equity Securities (SFAS No. 115). This statement requires that investments in
debt and equity securities be classified as trading, held-to-maturity, or
available-for-sale. The Company's investments, primarily tax-exempt
investment grade securities, are classified as available-for-sale and are
recorded in the accompanying financial statements at fair market value. Under
SFAS No. 115, unrealized changes in fair market value are recorded directly
to stockholders' equity, net of applicable income taxes. To date, neither
unrealized changes in fair market value, nor realized gains or losses from
sales of securities have been material.
4. INCOME TAXES
Upon formation, the Company elected to operate as an S corporation under
the Internal Revenue Code of 1986, as amended. As such, the Company's taxable
income was included in the individual income tax returns of its stockholders
(with certain exceptions under state and local income tax laws). With the
closing of the Company's initial public offering (see Note 5), the Company's
Subchapter S status was terminated and the Company became subject to
corporate income taxes and was required to change its method of tax
accounting from the cash to the accrual method.
Upon the termination of its Subchapter S status, the Company adopted
Statement of Financial Accounting Standards No. 109, Accounting for Income
Taxes. This statement prescribes the use of the liability method whereby
deferred tax asset and liability account balances are determined based on
differences between financial reporting and tax bases of assets and
liabilities and are measured using the enacted tax rates and laws that will
be in effect when the differences are expected to reverse.
The estimated current and deferred tax effect of these changes, including
the effect of the change in the method of accounting based on the Company's
estimated 1997 taxable income, resulted in a nonrecurring charge of
approximately $1.2 million for termination of the Company's Subchapter S
status in the second quarter of 1997. The Company also paid a dividend of
$1.4 million to its S corporation stockholders during the third quarter of
1997. The dividend was estimated to approximate the tax that the S
stockholders will be required to pay on the 1997 taxable income allocated to
them.
5. STOCKHOLDERS' EQUITY
On April 2, 1997, the Company effected an 8-for-13 reverse stock split of
its issued and outstanding shares of Common Stock. On June 3, 1997, the
Company effected a change in the Company's authorized capital stock to
34,000,000 shares of Common Stock, $.01 par value, and 1,000,000 shares of
Preferred Stock, $.01 par value. All references in the accompanying condensed
financial statements to the applicable share and per share data, for all
periods presented, have been retroactively restated to reflect the effect of
the reverse stock split.
Upon termination of its Subchapter S status, the Company reclassified its
accumulated deficit of approximately $900,000 to additional paid-in capital,
in accordance with SEC Staff Advisory Bulletins.
<PAGE>
PSW Technologies, Inc.
Notes to Condensed Financial Statements
September 30, 1997
On June 10, 1997, the Company completed an initial public offering of
2,850,000 shares of its authorized but un- issued Common Stock at a price to
the public of $9.00 per share. The net proceeds of the offering were
approximate- ly $22.2 million. In connection with its initial public
offering, the Company granted the underwriters of the offering an option to
purchase up to 427,500 shares of Common Stock to cover over-allotments. On
July 2, 1997, the underwriters exercised their option, purchasing 427,500
shares of the Company's Common Stock, resulting in additional net proceeds to
the Company of approximately $3.6 million.
6. PRO FORMA PROVISION FOR INCOME TAXES
Pro forma provision for income taxes reflect the estimated corporate
income tax expense that the Company would have recognized had it not elected
to be treated as an S corporation prior to the completion of its initial
public offering.
7. PRO FORMA EARNINGS PER SHARE
Pro forma earnings per share is computed using the weighted average
number of shares of common stock outstanding and dilutive common equivalent
shares from stock options using the treasury stock method. Pursuant to the
SEC Staff Accounting Bulletin No. 83, such computations include all common
and common equivalent shares issued within twelve months of the offering date
as if they were outstanding for all periods presented using the treasury
stock method.
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Except for historical information contained herein, some matters
discussed in this report constitute forward-looking statements relating to
future events or the future financial performance of the Company.
Stockholders are cautioned that such statements are only predictions and
actual events or results may differ materially. In evaluating such
statements, prospective investors should specifically consider the
<PAGE>
risks discussed below under the caption "Certain Factors That May Affect
Future Results, Financial Condition and Market Price of Securities", as well
as those discussed in the Company's filings and reports with the Securities
and Exchange Commission, including the Company's Registration Statement on
Form S-1 (File No. 333-21565).
OVERVIEW
PSW Technologies, Inc. is a software services firm that provides high
value solutions to technology vendors and business end-users by mastering and
applying critical emerging technologies. These critical technologies include
web client/server applications, Windows NT migration and systems management
technologies. Technology vendors primarily consist of software companies who
utilize the Company's services to help bring their products to market faster.
Business end-users generally utilize the Company's services to help define,
develop and complete high value, mission critical enterprise software systems
for internal use.
To date, revenue has been generated principally from time-and-materials
contracts for the Company's software services. Revenue from
time-and-materials contracts is recognized during the period in which the
services are provided. The Company also enters into fixed price contracts for
its software services. Revenue from fixed price contracts is recognized using
the percentage-of-completion method over the term of the client contract,
measured by the labor incurred as a percentage of the estimated total labor.
The cumulative impact of revisions in percentage of completion estimates is
reflected in the period in which the revisions are made. Provisions for
estimated losses on uncompleted contracts are made on a contract by contract
basis and are recognized in the period in which such losses are determined.
There can be no assurance of the accuracy of the Company's future work
completion estimates, and operating results may be adversely affected by
inaccurate estimates of contract related labor.
Information presented herein reflects the financial position, results of
operations and cash flows of the Company and its predecessor, the software
division of Pencom Systems Incorporated, and such information does not
necessarily reflect what the financial position, results of operations and
cash flows of the Company would have been had the Company been operated as a
separate, stand-alone business for the periods presented prior to October 1,
1996.
NONRECURRING CHARGE FOR TERMINATION OF SUBCHAPTER S ELECTION
Upon formation, the Company elected to operate as an S corporation under
the Internal Revenue Code of 1986, as amended. As such, the Company's taxable
income was included in the individual income tax returns of its stockholders
(with certain exceptions under state and local income tax laws). With the
closing of its initial public offering, the Company's Subchapter S status was
terminated and the Company became subject to corporate income taxes and was
required to change its method of tax accounting from the cash to the accrual
method.
The estimated current and deferred tax effect of these changes, including
the effect of the change in the method of accounting based on the Company's
estimated 1997 taxable income, resulted in a nonrecurring charge of
approximately $1.2 million for termination of the Company's Subchapter S
status in the second quarter of 1997. The Company also paid a dividend of
$1.4 million to its S corporation stockholders during the third quarter of
1997. The dividend was estimated to approximate the tax that the S
stockholders will be required to pay on the 1997 taxable income allocated to
them.
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth the percentage of revenue of certain items
included in the Company's condensed statement of operations for the period
indicated:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ -----------------
1997 1996 1997 1996
---- ---- ---- ----
Revenue............................ 100% 100% 100% 100%
Operating expenses:
Technical staff.................... 51 55 51 55
Selling and administrative staff... 19 17 19 18
Other expenses..................... 17 18 18 18
Special compensation expense....... 1 9 1 3
Total operating expense.......... 88 99 89 94
Income from operations............. 12 1 11 6
Interest income (expense), net..... 2 (1) -- 6
Provision from income taxes........ 5 -- 4 2
Net income......................... 9% --%* 7%* 4%*
- ------------------------
* Net income is presented on a pro forma basis as if the Company had been
fully subject to federal and state income taxes.
First Nine Months of 1997 Compared to First Nine Months of 1996
REVENUE
The Company's revenue consists primarily of fees for software services
provided. Revenue was $32.3 million in the first nine months of 1997, up 52%
over $21.2 million for the first nine months of 1996, principally due to
increases in the scope and number of client projects. Revenue attributable to
software services rendered to technology vendors was $19.3 million and $13.7
million in first nine months of 1997 and the first nine months of 1996,
respectively, an increase of 41% in the first nine months of 1997 over the
first nine months of 1996. Revenue attributable to software services rendered
to business end-users was $13.0 million and $7.5 million for the first nine
months of 1997 and the first nine months of 1996, respectively, an increase
of 73% in the first nine months of 1997 over the first nine months of 1996.
One client, including its wholly owned subsidiaries, accounted for 42%
and 53% of revenue in each of the first nine months of 1997 and 1996,
respectively. Another client accounted for 16% of revenue for the first nine
months of 1996. No other client accounted for more than 10% of revenue for
either period.
TECHNICAL STAFF
Technical staff expenses consist of the cost of salaries, payroll taxes,
health insurance and workers' compensation, for technical staff personnel
assigned to client projects and unassigned technical staff personnel, and
fees paid to subcontractors for work performed in connection with a client
project. Technical staff expenses were $16.4 million in the first nine months
of 1997, an increase of 42% over
<PAGE>
$11.6 million for the first nine months of 1996. The increase in technical
staff expenses was primarily due to the addition of personnel necessary to
service the increase in the scope and number of client projects. Technical
staff expenses declined to 51% of revenue in the first nine months of 1997
from 55% in the first nine months of 1996, primarily as a result of improved
pricing of client projects in 1997.
SELLING AND ADMINISTRATIVE STAFF
Selling and administrative staff expenses consist of the cost of
salaries, payroll taxes, health insurance and workers' compensation for
selling and administrative personnel, all commissions and bonuses, and the
cost of technical staff salaries for technical staff personnel assigned to
methodology development projects or performing selling or training related
tasks. Selling and administrative staff expenses were $6.1 million in the
first nine months of 1997, an increase of 63% from $3.7 million in the first
nine months of 1996. The increase in selling and administrative staff
expenses in the first nine months of 1997 was primarily due to the addition
of sales and administrative personnel, and technical staff training necessary
to support the Company's growth. Selling and administrative staff expenses
were 19% of revenue in the first nine months of 1997 compared to 18% of
revenue in the first nine months of 1996, primarily as a result of increases
in the sales staff.
OTHER EXPENSES
Other expenses consist of all non-staff related costs, such as occupancy
costs, travel, business insurance, business development, recruiting, training
and depreciation. Other expenses were $5.8 million in the first nine months
of 1997, an increase of 52% over other expenses of $3.8 million in the first
nine months of 1996, principally due to increased costs associated with the
increases in the Company's technical and sales and administrative staff.
Other expenses were 18% of revenue in each of the first nine month periods in
1997 and 1996, respectively.
SPECIAL COMPENSATION EXPENSE
During 1997, special compensation expense consists of stock-based
compensation in connection with the grants of replacement options to the
Company's employees who participated in the Pencom Systems Incorporated stock
option plan. Special compensation expense was $259,000, or 1% of revenue, in
the first nine months of 1997.
In the third quarter of 1996, special compensation expense of $655,000
was incurred related to the cancellation of a note, including interest,
issued by an officer of the Company to Pencom Systems Incorporated.
INCOME FROM OPERATIONS
Income from operations increased to $3.7 million in the first nine months
of 1997, up 156% from $1.4 million in the first nine months of 1996. Income
from operations was 11% of revenue in the first nine months of 1997, up from
6% in the first nine months of 1996. If income from operations was adjusted
to exclude the special compensation expense referred to above, such income
from operations would have been $3.9 million and $2.1 million for the first
nine months of 1997 and 1996, respectively resulting in an 88% increase.
Excluding the special compensation expense, income from operations represents
12% and 10% of revenues for the first nine months of 1997 and 1996,
respectively.
<PAGE>
PRO FORMA PROVISION FOR INCOME TAXES
Pro forma provision for income taxes reflect the estimated corporate
income tax expense that the Company would have recognized had it not elected
to be treated as an S corporation prior to the completion of its initial
public offering.
PRO FORMA NET INCOME
Pro forma net income was $2.4 million in the first nine months of 1997,
up 197% from $819,000 of pro forma net income for the first six months of
1996. Pro forma net income was 7% of revenue in the first nine months of
1997, up from 4% in the first nine months of 1996. If pro forma net income
was adjusted to exclude the special compensation expense referred to above,
such pro forma net income would have been $2.6 million and $1.2 million for
the first nine months of 1997 and 1996, respectively resulting in an 117%
increase. Excluding the special compensation expense, pro forma net income
represents 8% and 6% of revenues for the first nine months of 1997 and 1996,
respectively.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1997, the Company had cash and cash equivalents and
investments totaling $22.6 million, an increase from $3.2 million at December
31, 1996, primarily as a result of the completion of an initial public
offering of 2,850,000 shares of its Common Stock at a price to the public of
$9.00 per share on June 10, 1997. Of the approximately $22.2 million of net
proceeds of the offering to the Company, approximately $3.0 million were used
to repay the principal amount and accrued interest outstanding under the
Company's credit facility, as amended (the "Credit Facility"), with Texas
Commerce Bank National Association, a subsidiary of the Chase Manhattan
Corporation ("TCB"). In connection with the completion of its initial public
offering, the Company also recorded liabilities for the payment of an
estimated $1.8 million income tax obligation payable over two years resultant
from the conversion from a cash basis to accrual basis method of tax
accounting upon the termination of its Subchapter S election and the payment
of a $1.4 million dividend to its S stockholders in respect of the estimated
tax that the S stockholders will be required to pay on the estimated 1997
taxable income allocated to them.
The Company maintains a Credit Facility with TCB providing for borrowings
of up to $6.5 million. The Credit Facility is secured by accounts receivable
and expires on November 7, 1997. Available borrowings under the Credit
Facility are based upon a percentage of the Company's eligible accounts
receivable. At September 30, 1997, no amount was outstanding under the Credit
Facility.
The Company currently plans to make additional investments in property
and equipment of approximately $400,000 in 1997, principally for software and
personal computers and other technology equipment.
The Company anticipates that its existing capital resources described
above, together with cash provided by operating activities will be adequate
to fund the Company's operations for at least the next 12 months. There can
be no assurance that changes will not occur that would consume available
capital resources before such time. The Company's capital requirements depend
on numerous factors, including potential acquisitions, the timing of the
receipt of accounts receivable, employee growth and the percentage of
projects performed at the Company's facilities. There can be no assurance
that additional funding, if necessary, will be available on favorable terms,
if at all.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS, FINANCIAL CONDITION AND
MARKET PRICE OF SECURITIES
CLIENT AND INDUSTRY CONCENTRATION; DEPENDENCE ON LARGE PROJECTS. The
Company has derived, and believes that it will continue to derive, a
significant portion of its revenue from a limited number of large clients.
The Company's five largest clients in each of 1995, 1996 and the first nine
months of 1997, accounted for approximately 88%, 82% and 68%, respectively,
of its revenue in each such
<PAGE>
period. The Company's largest client, International Business Machines Corp.,
together with its subsidiaries (collectively, "IBM"), accounted for
approximately 52% and 42% of its revenue in 1996 and the first nine months of
1997, respectively. The volume of work performed for specific clients is
likely to vary from year to year, and a major client in one year may not use
the Company's services in a subsequent year. The loss of, or reduction in the
Company's services required by, any large client could have a material
adverse effect on the Company's business, financial condition and results of
operations. Most of the Company's contracts are terminable by the client
following limited notice and without penalty to the client. Further, the
level of investment by the Company's clients in information technology ("IT")
projects can be adversely affected by a number of factors, including changes
or developments in the general technology landscape and the internal budget
cycles of such clients. The cancellation of a large project or a significant
reduction in the scope of any such project could have a material adverse
effect on the Company's business, financial condition and results of
operations, and in the past the cancellation of large projects has adversely
impacted the Company's earnings.
The Company has derived, and believes it will continue to derive, a
significant portion of its revenue from the technology vendor industry. As a
result the Company's business, financial condition and results of operations
are influenced by economic and other conditions affecting such industry, such
as economic downturns which could lead to a reduction in spending on IT
projects, which in turn could lead to fewer new research and development
outsourcing projects being undertaken. Further, several of the Company's
client contracts limit its ability to provide services to competitors of such
clients, thereby restricting the field of potential future clients. In
addition, as a result of the dynamic nature of the technology vendor
industry, the Company may lose clients due to the acquisition, merger or
consolidation of existing clients with entities which are not current clients
of the Company. The occurrence of any of the foregoing could have a material
adverse effect on the Company's business, financial condition and results of
operations.
FIXED-PRICE CONTRACTS AND OTHER PROJECT RISKS. During 1996 and the first
nine months of 1997, approximately 12% and 21%, respectively, of the
Company's revenue was generated on a fixed price, fixed-delivery-schedule
("fixed price") basis, rather than on a time-and-materials basis. Revenue
generated on a fixed price basis may continue to increase in the future. The
Company's failure to accurately estimate the resources required for a fixed
price project or its failure to complete its contractual obligations in a
timely manner consistent with the project plan upon which its fixed price
contract is based could have a material adverse effect on the Company's
business, financial condition and results of operations. In the past, the
Company has found it necessary to revise project plans after commencement of
the project and commits unanticipated additional resources to complete
certain projects, which have negatively affected the profitability of such
projects. The Company may experience similar situations in the future, which
could have a material adverse effect on the Company's business, financial
condition and results of operations. In addition, the Company may establish
contract prices before the project design specifications are finalized, which
could result in a fixed price that proves to be too low and therefore
adversely affects the Company's business, financial condition and results of
operations.
Many of the Company's engagements involve projects which are critical to
the operations of its clients' businesses and which provide benefits that may
be difficult to quantify. The Company's failure to meet a client's
expectations in the performance of its services could damage the Company's
reputation and adversely affect its ability to attract new business, and may
have a material adverse effect upon its business, financial condition and
results of operations. The Company has undertaken, and may in the future
undertake, projects in which the Company guarantees performance based upon
defined operating specifications or guaranteed delivery dates. Unsatisfactory
performance or unanticipated difficulties or delays in completing such
projects may result in client dissatisfaction and a reduction in payment to,
or payment of damages by, the Company, any of which could have a material
adverse effect on the Company's business, financial condition and results of
operations. There can be no assurance that the Company will be able to limit
its liability to clients, including liability arising from the Company's
failure
<PAGE>
to meet clients' expectations in the performance of services, through
contractual provisions, insurance or otherwise.
MANAGEMENT OF GROWTH. The Company's growth has placed significant
demands on its management and other resources. For example, the Company's
staff increased from 167 full-time employees at December 31, 1994 to 452
full-time employees at September 30, 1997, and further significant increases
are expected. The Company's ability to manage its growth effectively will
require it to continue to develop and improve its operations, financial and
other internal systems, as well as its business development capabilities, and
to continue to attract, train, retain, motivate and manage its employees. In
addition, the Company's future success will depend in large part on its
ability to continue to maintain high rates of employee utilization, set fixed
price fees accurately, maintain project quality and meet delivery dates, all
as the Company seeks to increase the number of projects in which it is
engaged. If the Company is unable to manage its growth and projects
effectively, such inability would have a material adverse effect on the
quality of the Company's services, its ability to retain key personnel and
its business, financial condition and results of operations. No assurance can
be given that the Company's growth will continue to be achieved, or if
achieved, will be maintained or that the Company will be successful in
managing any such growth.
RECENT ORGANIZATION; ABSENCE OF OPERATING HISTORY AS AN INDEPENDENT
BUSINESS; LIMITED RELEVANCE OF HISTORICAL FINANCIAL INFORMATION. Prior to
October 1996, the Company conducted its business and operations as the
software division of Pencom. Accordingly, the Company has only a limited
independent operating history upon which an evaluation of the Company and its
prospects can be based. Prior to October 1996, the Company also had limited
accounting capability and depended upon Pencom for most accounting functions.
By October 1, 1996, the Company had assumed responsibility for most internal
accounting functions, but continued to depend upon Pencom for limited
accounting support in connection with the Company's year-end audit through
January 31, 1997. The Company has also relied upon, and will continue to rely
upon, Pencom for certain legal services and recruiting functions. The
Company's management has only limited experience operating the Company as a
stand-alone Company, separate and apart from Pencom. Pencom has no obligation
to provide financial or management assistance to the Company and has no plans
to do so. The inability of the Company to operate successfully as an entity
independent from Pencom would have a material adverse effect on the Company's
business, financial condition and results of operations.
The financial information included herein does not necessarily reflect
what the results of operations, financial position and cash flows of the
Company would have been had the Company been operated as a separate,
stand-alone business during the period presented.
VARIABILITY OF QUARTERLY OPERATING RESULTS. The Company's revenue and
operating results may fluctuate from quarter to quarter based on a number of
factors, including the number, size and scope of projects in which the
Company is engaged, the contractual terms and degree of completion of such
projects, any delays incurred in connection with a project, the Company's
success in earning bonuses or other contingent payments, employee hiring and
utilization rates, the adequacy of provisions for losses, the accuracy of
estimates of resources required to complete ongoing projects and general
economic conditions. A high percentage of the Company's operating expenses,
particularly personnel and rent, are fixed in advance of any particular
quarter. For example, while the number of professional staff the Company
employs may be adjusted to reflect active projects, such adjustments take
time and the Company must maintain a sufficient number of senior
professionals to oversee existing client engagements and to focus on securing
new client engagements. As a result, unanticipated variations in the number
or progress toward completion of the Company's projects or in employee
utilization rates may cause significant variations in operating results in
any particular quarter and could result in adverse changes to the Company's
business, financial condition and results of operations. Any shortfall in
revenue or earnings from expected levels or other failures to meet
expectations of securities analysts or the market in general regarding
results of operations could have an immediate and material adverse effect on
the market price of the Company's Common Stock. Given the possibility of such
quarterly fluctuations in revenue or earnings, the Company believes that
comparisons of its quarterly results of operations are not necessarily
<PAGE>
meaningful and that such results of one quarter should not be relied upon as
an indication of future performance.
NEED TO ATTRACT AND RETAIN PROFESSIONAL STAFF. The Company's success
will depend in large part upon its ability to attract, train, retain,
motivate and manage highly skilled employees, particularly project managers
and other senior technical personnel. Significant competition exists for
employees with the skills required to perform the services offered by the
Company, and the Company requires that a significant number of such employees
travel to client sites to perform services on its behalf, which may make a
position with the Company less attractive to potential employees. Qualified
project managers, software architects and senior technical and professional
staff are in great demand worldwide and are likely to remain a limited
resource for the foreseeable future. Furthermore, there is a high rate of
attrition among such personnel. There can be no assurance that a sufficient
number of highly skilled employees will continue to be available to the
Company, that potential employees will be willing to travel to client sites,
or that the Company will be successful in training, retaining and motivating
current or future employees. The Company's inability to attract, train and
retain skilled employees or the Company's employees' inability to achieve
expected levels of performance could impact the Company's ability to
adequately manage and staff its existing projects and to bid for or obtain
new projects, which in turn would have a material adverse effect on the
Company's business, financial condition and results of operations.
RAPID TECHNOLOGICAL ADVANCES; RISK OF TARGETING EMERGING TECHNOLOGIES.
The Company has derived, and will continue to derive, a substantial portion
of its revenue from projects based on client/server systems. The
client/server systems market is continuing to develop and is subject to rapid
technological change. The Company's future success will also depend in part
on its ability to develop IT solutions which keep pace with continuing
changes in information processing technology, evolving industry standards and
changing client preferences. There can be no assurance that the Company will
be successful in addressing these developments in a timely manner or that if
addressed, the Company will be successful in the marketplace. The Company's
delay or failure to address these developments could have a material adverse
effect on the Company's business, financial condition and results of
operations. In addition, there can be no assurance that products or
technologies developed, or services offered, by third parties will not render
the Company's services noncompetitive or obsolete. The Company also seeks to
identify emerging technologies which it believes will develop into critical
technologies with broad application and longevity. Once identified, the
Company may commit substantial resources to provide services to the
developers of such technologies. No assurance can be given that the
technologies identified by the Company will develop into critical
technologies with broad application and longevity. The failure of the Company
to align itself with such critical emerging technologies would have a
material adverse affect on its business, financial condition and results of
operations.
CONTROL BY SHAREHOLDERS OF PENCOM; POTENTIAL CONFLICTS OF INTEREST. The
current shareholders of Pencom own approximately 56% of the outstanding
shares of the Company's Common Stock. In addition, as of September 30, 1997,
the shareholders of Pencom collectively held warrants to purchase 200,016
shares of Common Stock of the Company at an exercise price of $0.04 per share
(in excess of 2% of the outstanding Common Stock). As a result, the current
shareholders of Pencom retain the voting power required to elect all
directors and otherwise control the management and affairs of the Company,
including any determinations with respect to acquisitions, dispositions,
borrowings, issuances of Common Stock or other securities or the declaration
and payment of any dividends on the Common Stock. This concentration of
ownership and voting control may have the effect of delaying or preventing a
change in control of the Company, or causing a change in control of the
Company that may not be favored by the Company's other stockholders. There
can be no assurance that such ability to prevent or cause a change in control
of the
<PAGE>
Company will not have a material adverse effect on the price of the Common
Stock. There can be no assurance that conflicts of interest between Pencom
and the Company will not arise in a number of areas relating to their past
and ongoing relationships, or that any such conflict of interest will be
resolved in a manner favorable to the Company, including potential
competitive business activities, indemnity arrangements, registration rights,
sales or distributions by the shareholders of Pencom of their shares of
Common Stock and the exercise by the shareholders of Pencom of their ability
to control the management and affairs of the Company. Any adverse change in
the Company's relationship with Pencom or with Pencom's shareholders could
have a material adverse effect on the Company's business, financial condition
and results of operations.
The Company and Pencom have entered into a number of agreements for the
purpose of defining certain relationships between them. The Company and
Pencom may also enter into material transactions and agreements in the
future. As a result of Pencom's shareholder's ownership interest in the
Company, the terms of such agreements were not, and terms of any future
amendments to those agreements or future agreements may not be, the result of
arm's-length negotiations. In evaluating the terms of any material
transactions between the Company and Pencom or its affiliates, the Company's
Board of Directors will utilize such procedures as it deems appropriate in
light of its fiduciary duties under Delaware law. Four of the seven directors
of the Company are also directors of Pencom. Directors of the Company who are
also directors of Pencom will have conflicts of interest with respect to
matters involving or affecting the Company and Pencom, such as acquisitions,
financings and other corporate opportunities that may be suitable for both
the Company and Pencom. There are no contractual or other restrictions on
Pencom's ability to compete with the Company. Accordingly, circumstances
could arise in which Pencom would engage in activities in competition with
the Company. There can be no assurance that such conflicts or competition
will be resolved in favor of the Company. In addition, there can be no
assurance that potential clients and vendors will not be deterred by the
existence of these relationships or by the historical ties between the
Company and Pencom.
COMPETITION. The markets for the Company's services are highly
competitive. The Company believes that it currently competes principally with
the internal information systems and development groups of its prospective
clients, as well as with consulting and software integration firms and other
hardware and application software vendors. In addition, there are a number of
systems integrators who serve similar markets or provide similar services
with whom the Company competes or may compete in the future. Many of these
companies have significantly greater financial, technical and marketing
resources than the Company, generate greater revenues and have greater name
recognition than the Company. There are relatively low barriers to entry into
the Company's markets and the Company has faced, and expects to continue to
face, additional competition from new entrants into its markets.
The Company believes that the principal competitive factors in its
markets include reputation, project management expertise, industry expertise,
speed of development and implementation, technical expertise and the ability
to deliver on a fixed price as well as a time-and-materials basis. The
Company believes that its ability to compete also depends in part on a number
of competitive factors outside of its control, including the ability of its
clients or competitors to hire, retain and motivate project managers and
other senior technical staff; the ownership by competitors of software used
by potential clients; the development by others of products and services that
are competitive with the Company's services; the price at which others offer
comparable services; the ability of its clients to perform the services
themselves; and the extent of its competitors' responsiveness to client
needs. There can be no assurance that the Company will be able to compete
effectively on pricing or other requirements with current and future
competitors or that competitive pressures faced by the Company will not cause
the Company's revenue or income to decline or otherwise materially adversely
affect its business, financial condition and results of operations. The
Company has entered into employment agreements with each of its executive
officers. These agreements contain provisions which, among others, prohibit
the employee from disclosing or otherwise using certain confidential
information, assign to the Company inventions or ideas conceived by the
<PAGE>
employee during his employment, prohibit solicitation by the employee of
clients and other employees of the Company and prohibit the employee from
accepting any opportunity (whether by contract or full-time employment) with
the Company's clients. Furthermore, the Company's employment agreement with
Dr. W. Frank King, the Company's President and Chief Executive Officer,
contains provisions, which for a period of two years after termination,
restrict Dr. King's ability to provide services to, or solicit the business
of, the Company's clients and prospective clients. There can be no assurance
that any of the foregoing measures will provide the Company with adequate
protection.
DEPENDENCE ON KEY PERSONNEL. The Company's future success will depend in
part upon the continued services of a number of key management and key
technical employees. The loss of the services of any of the Company's key
personnel could have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, the Company's
credit facility prohibits material changes in management. The Company does
not maintain key-person life insurance on any of its employees. In addition,
if one or more of the Company's key employees resigns from the Company to
join a competitor or to form a competing Company, any resulting loss of
existing or potential clients to any such competitor could have material
adverse effect on the Company's business, financial condition and results of
operations. In the event of the loss of any such personnel, there can be no
assurance that the Company would be able to prevent the unauthorized
disclosure or use of its technical knowledge, practices or procedures by such
personnel.
SYSTEM INTERRUPTION AND SECURITY RISKS; POTENTIAL LIABILITY AND LACK OF
INSURANCE. The Company's operations are dependent on its ability to protect
its intranet from interruption by damage from telecommunications failure,
fire, earthquake, power loss, unauthorized entry or other events beyond the
Company's control. Most of the Company's computer equipment, including its
processing equipment, is currently located at a single site. There can be no
assurance that unanticipated problems will not cause any significant system
outage or data loss. Despite the implementation of security measures, the
Company's infrastructure may also be vulnerable to computer viruses, hackers
or similar disruptive problems caused by Internet users. Persistent problems
continue to affect public and private data networks. For example, it is
common for Internet service providers to experience system interruptions
which cause the Company to lose access to the Internet, the means by which
the Company posts internal information and provides e-mail and time sheet
query and entry. Any damage or failure that causes interruptions in the
Company's operations could have a material adverse effect on the Company's
business, financial condition or results of operations.
INTELLECTUAL PROPERTY RIGHTS. The Company's future success is dependent
in part upon the maintenance and protection of its intellectual property
rights and, to a lesser extent, upon its ability to license technology from
its clients. The Company relies on a combination of copyrights, trade secrets
and trademarks to protect its intellectual property. There can be no
assurance that the steps taken by the Company to protect its intellectual
property rights will be adequate, that competitors will not be able to
develop similar or functionally equivalent methodologies or products or that
the Company will be able to license technology from its clients in the
future. Furthermore, effective copyright and trade secret protection may be
unavailable or limited in certain foreign countries, and no assurance can be
given that foreign copyright and trade secret laws will adequately protect
the Company's intellectual property rights. Litigation may be necessary to
enforce the Company's intellectual property rights, to protect the Company's
trade secrets, to determine the validity and scope of the intellectual
property rights of others, including the Company's clients, or to defend
against claims of infringement. Such litigation could result in substantial
costs and diversion of resources and could have a material adverse effect on
the Company's business, financial condition and results of operations. No
assurance can be given that infringement or invalidity
<PAGE>
claims (or claims for indemnification resulting from infringement claims
against third parties, such as clients) will not be asserted against the
Company or that any such assertions would not have a material adverse effect
on the Company's business, financial condition or results of operations. If
infringement or invalidity claims are asserted against the Company or any of
its licensees, litigation may be necessary to defend the Company or such
licensees against such claims, and in certain circumstances, the Company may
choose to seek to obtain a license under the third party's intellectual
property rights. There can be no assurance that such licenses will be
available on terms acceptable to the Company, if at all.
POTENTIAL VOLATILITY OF STOCK PRICE. The market for securities of
early-stage companies has been highly volatile in recent years as a result of
factors often unrelated to a company's operations. In addition, the Company
believes factors such as quarterly variations in operating results,
announcements of technological innovations or new products or services by the
Company or its competitors, general conditions in the IT industry or the
industries in which the Company's clients compete and changes in earnings
estimates by securities analysts, could contribute to the volatility of the
price of the Company's Common Stock. These factors, as well as general
economic conditions such as recessions or changes in interest rates, could
adversely affect the market price of the Common Stock. Furthermore, in the
past, following periods of volatility in the market price of a company's
securities, securities class action claims have been brought against the
issuing company. There can be no assurance that such litigation will not
occur in the future with respect to the Company. Such litigation could result
in substantial costs and a diversion of management's attention and resources,
and any adverse determination in such litigation could also subject the
Company to significant liabilities, all of which could have a material
adverse effect on the Company's business, financial condition and results of
operations.
<PAGE>
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
NUMBER DESCRIPTION
- --------- -------------------------------------------------------------------
**1.1 Form of Underwriting Agreement.
**3.1 Certificate of Incorporation of the Registrant, as amended to date.
**3.2 Form of Amended and Restated Certificate of Incorporation of the
Registrant to be filed prior to completion of the public offering.
**3.3 Bylaws of the Registrant.
**3.4 Form of Amended and Restated Bylaws of the Registrant to be
effective upon the completion of the public offering.
**4.1 Specimen Common Stock Certificate.
**4.2 See Exhibits 3.1, 3.2, 3.3 and 3.4 for provisions of the Certificate
of Incorporation and Bylaws of the Registrant defining rights of
holders of Common Stock of the Registrant.
**5.1 Opinion of Brobeck, Phleger & Harrison LLP.
**10.1 Bridgepoint Lease Agreement dated October 31, 1996 between the
Registrant and Investors Life Insurance Company of North America.
**10.2 Lease Guarantee effective January 31, 1997 between the Registrant
and Pencom Systems Incorporated.
**10.3 Office Lease dated April 25, 1996 between G&W Investment Partners
and Pencom Systems Incorporated, as amended.
**10.4 Agreement of Lease dated May 13, 1996 between Newport L.G.-I, Inc.
and Pencom Systems Incorporated.
#10.5 Software Development Agreement having an effective date of
March 9, 1994 between the Registrant and Canon Computer Systems,
Inc., as amended.
#10.6 Software Licensing Agreement having an effective date of June 13,
1996 between the Registrant and Canon Computer systems Incorporated.
**10.7 Service Agreement No. 200.504 dated November 26, 1990 between the
Registrant and International Business Machines Corporation, as
amended to date.
**10.8 Software Task Order Agreement dated November 20, 1995 between the
Registrant and Tivoli Systems, Inc., as amended.
<PAGE>
**10.9 Loan agreement dated November 16, 1995 between Tivoli Systems, Inc.
and the Registrant.
#10.10 Software & Methodology Licensing Agreement dated November 4, 1996
between the Registrant and Embarcadero Systems Corporation.
**10.11 Reseller Agreement dated November 4, 1996 between the Registrant and
Embarcadero Systems Corporation.
**10.12 Credit Agreement dated November 8, 1996 between the Registrant and
Texas Commerce Bank National Association.
**10.13 Promissory Note dated November 8, 1996 from the Registrant to Texas
Commerce Bank National Association.
**10.14 Accounts Receivable Agreement dated October 1, 1996 between the
Registrant and Pencom Systems Incorporated.
**10.15 Letter Agreement dated October 2, 1996 between the Registrant and
Pencom Systems Incorporated.
**10.16 Recruiting Services Agreement dated January 20, 1997 between the
Registrant and Pencom Systems Incorporated.
**10.17 Stockholders Agreement dated October 1, 1996 between the Registrant
and certain stockholders of the Registrant.
**10.18 Registration Rights Agreement dated October 1, 1996 between the
Registrant and certain stockholders and warrantholders of the
Registrant.
**10.19 Promissory Note dated October 1995 from Dr. William Frank King to
Pencom Systems Incorporated.
**10.20 Employment Agreement dated October 19, 1992 between Dr. William
Frank King and Pencom Systems Incorporated.
**10.21 Employment Agreement dated October 1, 1996 between Dr. W. Frank King
and the Registrant.
**10.22 Employment Agreement dated July 1, 1993 between the Registrant and
Patrick Motola.
**10.23 Employment Agreement dated September 27, 1993 between the Registrant
and William Cason.
**10.24 Employment Agreement dated October 19, 1993 4 between the Registrant
and Brian Baisley.
**10.25 1996 Stock Option/Stock Issuance Plan.
**10.26 Employee Stock Purchase Plan.
**10.27 PSW Profit Sharing Plan.
**10.28 Description of Executive Bonus Plan.
**10.29 Stock Purchase Agreement dated as of January 1, 1997 between
Michael J. Maples and the Registrant.
**10.30 Stock Subscription dated October 1, 1996 between Pencom Systems
Incorporated and the
**10.31 Asset Contribution Agreement dated October 1, 1996 between Pencom
Systems Incorporated and the Registrant.
**10.32 Assignment and Assumption Agreement dated October 1, 1996 between
the Registrant and Pencom Systems Incorporated.
**10.33 Warrant dated October 1, 1996 issued by the Registrant to Pencom
Systems Incorporated.
**10.34 Warrant dated October 1, 1996 issued by the Registrant to Stephen
Markman.
**10.35 Warrant dated October 1, 1996 issued by the Registrant to Thomas
Pallister.
**10.36 Warrant dated October 1, 1996 issued by the Registrant to Joy
Venegas.
11.1 Computation of Pro Forma Earnings Per Share.
27.1 Financial Data Schedule
- ------------------------
** Incorporated herein by reference to the Company's Registration Statement on
Form S-1 (File No. 333-21565).
# The Company has been granted confidential treatment with respect to certain
portions of these documents. The portions of these documents which have been
omitted are denoted by an asterisk[*]. The omitted portions of these
documents have been filed with the Securities and Exchange Commission
pursuant to Rule 406 under the Securities Act of 1933.
(b) Reports on Form 8-K
None.
<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.
PSW TECHNOLOGIES, INC.
(REGISTRANT)
DATE: NOVEMBER 13, 1997 /S/ Dr. W. Frank King
------------------------------
DR. W. FRANK KING
PRESIDENT AND CHIEF EXECUTIVE OFFICER
(PRINCIPAL EXECUTIVE OFFICER)
DATE: NOVEMBER 13, 1997 /S/ Patrick D. Motola
------------------------------
PATRICK D. MOTOLA
SENIOR VICE PRESIDENT OF OPERATIONS,
CHIEF FINANCIAL OFFICER
AND SECRETARY (PRINCIPAL FINANCIAL
OFFICER)
DATE: NOVEMBER 13, 1997 /S/ Keith D. Thatcher
------------------------------
KEITH D. THATCHER
VICE PRESIDENT OF FINANCE AND
TREASURER (PRINCIPAL ACCOUNTING OFFICER)
<PAGE>
Exhibit 11.1
PSW Technologies, Inc.
Computation of Pro Forma Earnings Per Share
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ----------------------
1997 1996 1997 1996
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Net Income........................ $ 1,111,000 $ 20,000 $1,942,000 $1,321,000
Pro forma net income.............. $ 12,000 $2,432,000 $ 819,000
Primary:
Weighted average number of
common shares outstanding........ 8,847,269 5,538,463 6,878,354 5,538,463
Net effect of stock options and
warrants--based on tresury
stock method using average
market price..................... 1,427,392 1,342,350 1,310,199 1,342,350
----------- ---------- ---------- ----------
Weighted average number of
common shares and
equivalents outstanding.......... 10,274,661 6,880,813 8,188,553 6,880,813
----------- ---------- ---------- ----------
----------- ---------- ---------- ----------
Earnings per share................ $ 0.11
----------
----------
Pro forma earnings per share...... $ -- $ 0.30 $ 0.12
---------- ---------- ----------
---------- ---------- ----------
Fully diluted:
Weighted average number of
common shares outstanding........ 8,847,269 5,538,463 6,878,354 5,538,463
Net effect of dilutive stock
options and warrants--based on
treasury stock method using
quarter-end market price......... 1,427,392 1,342,350 1,386,397 1,342,350
----------- ---------- ---------- ----------
Weighted average number of
common shares and equivalents
outstanding...................... 10,274,661 6,880,813 8,264,751 6,880,813
----------- ---------- ---------- ----------
----------- ---------- ---------- ----------
Earnings per share (1)........... $ 0.11
----------
----------
Pro forma earnings per share (1).. $ -- $ 0.29 $ 0.12
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
(1) Fully diluted earnings per share is not disclosed in the financial
statements as the resulting dilution is less than 3% of primary pro forma
earnings per share.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
FINANCIAL STATEMENTS FOR THE PERIOD ENDED SEPTEMBER 30, 1997
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 1,350
<SECURITIES> 21,224
<RECEIVABLES> 8,131
<ALLOWANCES> 165
<INVENTORY> 0
<CURRENT-ASSETS> 30,918
<PP&E> 5,385
<DEPRECIATION> 1,883
<TOTAL-ASSETS> 34,420
<CURRENT-LIABILITIES> 4,288
<BONDS> 0
0
0
<COMMON> 88
<OTHER-SE> 30,019
<TOTAL-LIABILITY-AND-EQUITY> 30,420
<SALES> 0
<TOTAL-REVENUES> 32,267
<CGS> 0
<TOTAL-COSTS> 16,445
<OTHER-EXPENSES> 12,171
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 161
<INCOME-PRETAX> 3,812
<INCOME-TAX> 1,870
<INCOME-CONTINUING> 1,942
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,942
<EPS-PRIMARY> .30<F1>
<EPS-DILUTED> .30
<FN>
<F1>(1) TAGS 40 AND 41 PRESENTED ON A PRO FORMA BASIS AS IF THE COMPANY HAD BEEN
FULLY SUBJECT TO FEDERAL AND STATE INCOME TAXES FOR ALL PERIODS PRESENTED.
</FN>
</TABLE>
