<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
[X] THE SECURITIES EXCHANGE ACT OF 1934.
FOR THE QUARTER ENDED JUNE 30, 1999
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 1-14443
GARTNER GROUP, INC.
(Exact name of Registrant as specified in its charter)
Delaware 04-3099750
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
P.O. Box 10212 06904-2212
56 Top Gallant Road (Zip Code)
Stamford, CT
(Address of principal executive offices)
Registrant's telephone number, including area code: (203) 316-1111
Indicate by check mark whether the Registrant (1) has filed all reports 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 .
The number of shares outstanding of the Registrant's capital stock as of
June 30, 1999 was 104,419,358 shares of Common Stock, Class A.
<PAGE> 2
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS Page
Condensed Consolidated Balance Sheets at June 30, 1999
and September 30, 1998 3
Condensed Consolidated Statements of Operations for the
Three and Nine Months ended June 30, 1999 and 1998 4
Condensed Consolidated Statements of Cash Flows for the
Nine Months ended June 30, 1999 and 1998 5
Notes to Condensed Consolidated Financial Statements 6
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 9
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISKS 16
PART II OTHER INFORMATION
ITEM 5: OTHER INFORMATION 16
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K 16
2
<PAGE> 3
PART I FINANCIAL INFORMATION
Item 1 Financial Statements
GARTNER GROUP, INC.
Condensed Consolidated Balance Sheets
(In thousands)
<TABLE>
<CAPTION>
June 30, September 30,
1999 1998
--------- -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 211,204 $ 157,744
Marketable securities 69,500 60,940
Fees receivable, net 238,241 239,243
Deferred commissions 19,063 28,287
Prepaid expenses and other current assets 18,677 24,865
--------- ---------
Total current assets 556,685 511,079
Long-term marketable securities 3,275 43,610
Property, equipment and leasehold improvements, net 58,783 50,801
Intangible assets, net 208,152 155,786
Other assets 78,747 71,595
--------- ---------
Total assets $ 905,642 $ 832,871
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities $ 74,026 $ 106,400
Commissions payable 7,845 20,422
Deferred revenues 289,689 288,013
--------- ---------
Total current liabilities 371,560 414,835
Long-term deferred revenues 593 3,098
Commitments and contingencies
Stockholders' equity:
Preferred stock -- --
Common stock 58 57
Additional paid-in capital 311,678 262,776
Unearned compensation (11,823) --
Cumulative translation adjustment (4,852) (2,155)
Accumulated earnings 278,830 193,485
Treasury stock, at cost (40,402) (39,225)
--------- ---------
Total stockholders' equity 533,489 414,938
--------- ---------
Total liabilities and stockholders' equity $ 905,642 $ 832,871
========= =========
</TABLE>
See accompanying notes
3
<PAGE> 4
GARTNER GROUP, INC.
Condensed Consolidated Statements of Operations
(In thousands, except per share data)
<TABLE>
<CAPTION>
For the three months ended For the nine months ended
June 30, June 30,
------------------------- -------------------------
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenues:
Advisory and measurement $134,351 $121,659 $399,973 $359,181
Learning -- 5,193 -- 15,136
Other, principally consulting and conferences 51,307 34,140 147,393 98,907
-------- -------- -------- --------
Total revenues 185,658 160,992 547,366 473,224
-------- -------- -------- --------
Costs and expenses:
Cost of services and product development 74,427 62,861 214,154 181,422
Selling, general and administrative 63,489 55,582 180,473 155,103
Acquisition-related charge -- -- -- 6,294
Nonrecurring charges 1,498 -- 5,924 2,819
Depreciation 5,472 4,617 15,989 12,821
Amortization of intangibles 2,634 2,470 7,336 7,075
-------- -------- -------- --------
Total costs and expenses 147,520 125,530 423,876 365,534
-------- -------- -------- --------
Operating income 38,138 35,462 123,490 107,690
Interest income, net 2,572 2,200 7,648 6,851
-------- -------- -------- --------
Income before provision for income taxes 40,710 37,662 131,138 114,541
Provision for income taxes 14,294 14,680 45,793 45,816
-------- -------- -------- --------
Net income $ 26,416 $ 22,982 $ 85,345 $ 68,725
======== ======== ======== ========
Earnings per common share:
Basic $ 0.25 $ 0.23 $ 0.83 $ 0.69
Diluted $ 0.25 $ 0.22 $ 0.80 $ 0.65
Weighted average common shares outstanding:
Basic 104,229 101,272 103,110 99,755
Diluted 106,838 106,477 106,054 105,675
</TABLE>
See accompanying notes
4
<PAGE> 5
GARTNER GROUP, INC.
Condensed Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
For the nine months ended
June 30,
--------------------------
1999 1998
--------- ---------
<S> <C> <C>
Operating activities:
Net income $ 85,345 $ 68,725
Adjustments to reconcile net income to cash provided by operating
activities:
Depreciation and amortization 23,325 19,896
Provision for doubtful accounts 3,159 1,636
Equity losses of minority owned companies 384 318
Acquisition related charges -- 6,294
Deferred revenues (3,748) (4,026)
Deferred tax benefit (1,604) (2,256)
Changes in assets and liabilities, net of effects of acquisitions:
Increase in fees receivable (49) (8,487)
Decrease in deferred commissions 8,898 5,864
Decrease (increase) in prepaid expenses and other current assets 7,841 (6,329)
Increase in other assets (4,628) (2,661)
Decrease in accounts payable and accrued liabilities (37,239) (685)
Decrease in commissions payable (12,600) (16,016)
--------- ---------
Cash provided by operating activities 69,084 62,273
--------- ---------
Investing activities:
Payment for businesses acquired (excluding cash acquired) (40,207) (23,610)
Additions of property, equipment and leasehold improvements, net (22,448) (17,685)
Marketable securities sold (purchased), net 31,775 (63,632)
Investments in unconsolidated subsidiaries (4,210) (17,024)
Loans to officers -- (2,475)
--------- ---------
Cash used in investing activities (35,090) (124,426)
--------- ---------
Financing activities:
Issuance of common stock 14,505 32,191
Proceeds from employee stock purchase plan offering 2,469 3,188
Net cash settlement on forward purchase agreement (8,438) (7,599)
(Purchase) sale of treasury stock (1,177) 186
Tax benefits of stock transactions with employees 13,024 33,080
--------- ---------
Cash provided by financing activities 20,383 61,046
--------- ---------
Net increase (decrease) in cash and cash equivalents 54,377 (1,107)
Effects of foreign exchange rates on cash and cash equivalents (917) (1,090)
Cash and cash equivalents, beginning of period 157,744 142,415
--------- ---------
Cash and cash equivalents, end of period $ 211,204 $ 140,218
========= =========
</TABLE>
See accompanying notes
5
<PAGE> 6
GARTNER GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Interim Condensed Consolidated Financial Statements
These interim condensed consolidated financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and should be read in
conjunction with the consolidated financial statements and related notes of
Gartner Group, Inc. (the "Company") on Form 10-K for the fiscal year ended
September 30, 1998. In the opinion of management, all adjustments (consisting of
normal recurring adjustments) considered necessary for a fair presentation of
financial position, results of operations and cash flows at the dates and for
the periods presented have been included. The results of operations for the
three and nine month periods ended June 30, 1999 may not be indicative of the
results of operations for the remainder of fiscal 1999.
Note 2 - Nonrecurring Charges and One-Time Income Tax Benefit
For the three months ended June 30, 1999, the Company recorded pre-tax,
nonrecurring charges totaling $1.5 million primarily related to legal and
advisory fees associated with the Company's recapitalization (see Note 6 -
Subsequent Event, Recapitalization and Management's Discussion and Analysis of
Financial Condition and Results of Operations). For the nine months ended June
30, 1999, the Company has incurred $5.9 million in nonrecurring charges.
Approximately one-half of the charge relates to severance benefits as a result
of certain job eliminations associated with the second quarter reorganization.
The remainder of the charge pertains to legal and advisory fees associated with
the recapitalization of the Company. In addition, in the second quarter of
fiscal 1999, the Company recorded a one-time income tax benefit of $2.5 million
primarily as a result of the settlement of certain Federal income tax
examinations through fiscal 1997. The benefit was recorded as a reduction in the
provision for income taxes in the Condensed Consolidated Statements of
Operations.
Note 3 - Computations of Earnings per Share of Common Stock
The following table sets forth the reconciliation of the basic and diluted net
earnings per share computations (in thousands, except per share data).
<TABLE>
<CAPTION>
For the three months ended For the nine months ended
June 30, June 30,
-------------------------- --------------------------
1999 1998 1999 1998
-------- -------- --------- --------
<S> <C> <C> <C> <C>
Numerator:
Net income $ 26,416 $ 22,982 $ 85,345 $ 68,725
======== ======== ======== ========
Denominator
Denominator for basic earnings per share - weighted average
number of common shares outstanding 104,229 101,272 103,110 99,755
Effect of dilutive securities:
Weighted average number of common shares under warrant
outstanding 267 388 226 368
Weighted average number of option shares outstanding 2,342 4,817 2,718 5,552
-------- -------- -------- --------
Dilutive potential common shares 2,609 5,205 2,944 5,920
-------- -------- -------- --------
Denominator for diluted earnings per share - adjusted
weighted average number of common shares outstanding 106,838 106,477 106,054 105,675
======== ======== ======== ========
</TABLE>
6
<PAGE> 7
<TABLE>
<S> <C> <C> <C> <C>
Basic earnings per common share $ 0.25 $ 0.23 $ 0.83 $ 0.69
======== ======== ======== ========
Diluted earnings per common share $ 0.25 $ 0.22 $ 0.80 $ 0.65
======== ======== ======== ========
</TABLE>
Note 4 - Comprehensive Income
In June 1997, Statement of Financial Standards No. 130, "Reporting Comprehensive
Income" ("FAS 130"), was issued. FAS 130 establishes standards for reporting and
disclosure of comprehensive income and its components in a full set of
general-purpose financial statements. This statement requires that all items
that are required to be recognized under generally accepted accounting
principles as components of comprehensive income be reported in a financial
statement that is displayed with the same prominence as other financial
statements. FAS 130 requires certain adjustments, including foreign currency
translation adjustments, which are reported separately in stockholders' equity,
to be included in comprehensive income. The Company has adopted the disclosure
provisions of FAS 130 effective October 1, 1998. Comprehensive income for the
three and nine months ended June 30, 1999 and 1998 are as follows (in
thousands):
<TABLE>
<CAPTION>
For the three months ended For the nine months ended
June 30, June 30,
--------------------------- -------------------------
1999 1998 1999 1998
-------- ------- ------- -------
<S> <C> <C> <C> <C>
Net income $26,416 $22,982 $85,345 $68,725
Foreign currency translation adjustments (1,360) (379) (2,697) (2,012)
======= ======= ======= =======
Comprehensive income $25,056 $22,603 $82,648 $66,713
======= ======= ======= =======
</TABLE>
Note 5 - Subsequent Event, Acquisition
In July 1999, the Company acquired all of the outstanding shares of The Warner
Group ("Warner") for $18.0 million in cash. Warner is a leading management
consulting firm specializing in information technology, communications
technology and performance improvement for government agency clients. The
acquisition was accounted for by the purchase method.
Note 6 - Subsequent Event, Recapitalization
On July 16, 1999, the Company's stockholders approved a series of transactions
including the recapitalization of the Company's outstanding Common Stock into
two classes of Common Stock, consisting of Class A Common Stock and Class B
Common Stock, and the issuance of an aggregate of 40,689,648 shares of Class B
Common Stock to IMS Health Incorporated ("IMS Health") in exchange for a like
number of shares of Class A Common Stock held by IMS Health. Subsequently, on
July 26, 1999, IMS Health distributed such shares of Class B Common Stock to IMS
Health public stockholders of record on July 17, 1999, in a tax-free spin-off.
In addition, the Company's stockholders approved an amendment to the Company's
Certificate of Incorporation to increase the authorized capital stock of the
Company to a total of 250,000,000 shares of Common Stock (166,000,000 shares of
Class A Common Stock and 84,000,000 shares of Class B Common Stock) and
5,000,000 shares of Preferred Stock. The Class B Common Stock is identical in
all respects to the Class A Common Stock, except that the Class B Common Stock
is entitled to elect at least 80% of the members of the Company's Board of
Directors. The Company's stockholders also approved an
7
<PAGE> 8
amendment to the Company's Certificate of Incorporation to create a classified
Board of Directors of three classes having staggered three-year terms.
The Company also declared a special, nonrecurring cash dividend of $1.1945 per
share, payable to all Company stockholders of record as of July 16, 1999. The
cash dividend, totaling approximately $125 million, was paid on July 22, 1999.
In connection with the recapitalization, on July 27, 1999, the Company commenced
a tender offer in a Dutch Auction format to purchase approximately 15% of its
outstanding Common Stock, up to 15,700,000 shares, comprised of 9,600,000
shares of Class A Common Stock and 6,100,000 shares of Class B Common Stock, at
prices not less than $21.00 and not more than $24.00 per share. The Dutch
Auction tender process allows stockholders to select the price within the
specified price range at which they are willing to sell their shares to the
Company or to accept the purchase price resulting from the Dutch Auction tender
process. The tender offer will expire on Tuesday, August 24, 1999, unless
extended.
The Company will determine the lowest single price per share by class of common
stock net to the seller in cash, without interest, that will allow it to
purchase the desired number of shares of Class A and Class B Common Stock (or
such lesser number of shares as are validly tendered and not withdrawn). The
lowest single per share price for each class will be the purchase price the
Company will pay for all shares of such class validly tendered at prices at or
below such purchase price. The purchase price of the Class A Common Stock and
Class B Common Stock need not be identical. If more than the sought number of
shares of a class are tendered, there will be a proration among tendered shares
of such class.
Notwithstanding the foregoing, the Company will only repurchase shares of Class
A Common Stock and Class B Common Stock in the same proportion as the ratio of
the number of shares of each class outstanding on July 26, 1999. If stockholders
do not tender shares in this proportion (61% Class A Common Stock to 39% Class B
Common Stock), then the Company will only purchase the largest number of
properly tendered shares of each class that will enable it to maintain this
proportion, and the purchase price for each class will be determined upon the
basis of the number of shares of such class so purchased. Shares tendered at
prices in excess of the purchase price and shares not purchased because of the
proration and proportionality limitations will be returned to the tendering
stockholders at the Company's expense. The Company reserves the right, in its
sole discretion, to purchase more than 15,700,000 shares pursuant to the tender
offer. The Company also intends to purchase an additional 5,000,000 shares in
the open market over the next two years as part of the recapitalization plan,
increased or decreased to the extent the actual number of shares purchased in
the tender offer is less than or greater than the 15% sought to be purchased.
The dividend paid by the Company on July 22, 1999 was funded out of existing
cash. The tender offer and the subsequent open market purchases will be funded
through existing cash and borrowings under credit facilities. On July 16, 1999,
the Company entered into a Credit Agreement with The Chase Manhattan Bank, as
administrative agent for the participating financial institutions thereunder,
providing for a maximum of $500 million of credit facilities, consisting of a
$350 million term loan and a $150 million senior revolving credit facility.
Under the Credit Agreement, the Company and its subsidiaries are subject to
certain customary affirmative, negative and financial covenants.
As a result of the special, nonrecurring cash dividend, the Board of Directors
approved a reduction in the exercise price of stock options to maintain the
aggregate economic value of the stock options. Under the exercise price
reduction program, all options with an exercise price below the fair market
value of the stock on the effective date, July 16, 1999, were reduced to
maintain the ratio of the exercise price to the fair market value of the stock
prior to the cash dividend. The exercise price of options with an exercise
price equal to or greater than the fair market value of the stock on the
effective date were reduced by an
8
<PAGE> 9
amount equal to the dividend per share paid by the Company. No
changes were made to either the number of shares of common stock covered by or
in the vesting schedule of the options.
ITEM 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations
The discussion and analysis below contains trend analysis and other
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. Actual results could differ materially from those projected in the
forward-looking statements as a result of the risk factors set forth below under
"Quarterly Operating Income Trends," "Other Factors That May Affect Future
Performance", "Year 2000 Issues", "Euro Conversion" and elsewhere in this
report.
RESULTS OF OPERATIONS
The following table sets forth certain results of operations as a percentage of
total revenues:
<TABLE>
<CAPTION>
For the three months ended For the nine months ended
June 30, June 30,
------------------------------------- ------------------------------------
1999 1998 1999 1998
----------------- ----------------- ---------------- -----------------
<S> <C> <C> <C> <C>
Revenues:
Advisory and measurement 72.4% 75.6% 73.1% 75.9%
Learning - 3.2 - 3.2
Other, principally consulting and conferences 27.6 21.2 26.9 20.9
---------------- ------------------ ---------------- -----------------
Total revenues 100.0 100.0 100.0 100.0
---------------- ------------------ ---------------- -----------------
Costs and expenses:
Cost of services and product development 40.1 39.0 39.1 38.3
Selling, general and administrative 34.2 34.5 33.0 32.8
Acquisition-related charge - - - 1.3
Nonrecurring charges 0.8 - 1.1 0.6
Depreciation 2.9 2.9 2.9 2.7
Amortization of intangibles 1.4 1.5 1.3 1.5
----------------- ----------------- ---------------- -----------------
Total costs and expenses 79.4 77.9 77.4 77.2
----------------- ----------------- ---------------- -----------------
Operating income 20.6 22.1 22.6 22.8
Interest income, net 1.4 1.4 1.4 1.4
----------------- ----------------- ---------------- -----------------
Income before provision for income taxes 22.0 23.5 24.0 24.2
Provision for income taxes 7.7 9.1 8.4 9.7
---------------- ----------------- ---------------- -----------------
Net income 14.3% 14.4% 15.6% 14.5%
================= ================= ================ =================
</TABLE>
TOTAL REVENUES increased 15% to $185.7 million for the third quarter of fiscal
1999 from $161.0 million for the third quarter of fiscal 1998. For the nine
months ended June 30, 1999, total revenues were $547.4 million, up 16% from
$473.2 million for the same period last fiscal year. Excluding revenues from
9
<PAGE> 10
the Company's learning business, GartnerLearning, which was sold in September
1998, ongoing business revenue increased 19% for the third quarter of fiscal
year 1999 and for the nine months ended June 30, 1999 as compared to the same
periods in the prior fiscal year. The Company enters into annual renewable
contracts for advisory (excluding consulting) and measurement services. Advisory
and measurement services encompass services which, on an ongoing basis,
highlight industry developments, review new products and technologies, provide
quantitative market research, analyze industry trends within a particular
technology or market sector and provide comparative analysis of the information
technology operations of organizations. Revenues from advisory and measurement
services are recognized as services and products are delivered, and as the
Company's obligation to the client is completed over the contract period.
Revenues from advisory and measurement services increased by 10% to $134.4
million for the third quarter of fiscal 1999 from $121.7 million for the third
quarter of fiscal 1998. Revenues from advisory and measurement services
increased 11% to $400.0 million for the nine months ended June 30, 1999,
compared to $359.2 million for the same period in the prior fiscal year. The
increase in revenues from advisory and measurement services reflects continuing
client acceptance of new products and services, sales penetration into new and
existing clients and incremental revenue from current and prior year
acquisitions.
Contract value increased 14% to $608.4 million at June 30, 1999 versus $533.5
million at June 30, 1998. The Company believes that contract value, which is
calculated as the annualized value of all advisory and measurement contracts in
effect at a given point in time, without regard to the duration of the contracts
outstanding at such time, is a significant measure of the Company's volume of
business. Historically, a substantial portion of client companies have renewed
these services and products for an equal or higher level of total value each
year, and annual revenues from these services in any fiscal year have
approximated contract value at the beginning of the fiscal year. As of June 30,
1999, approximately 85% of the Company's clients had renewed one or more
services in the last twelve months. However, this renewal rate is not
necessarily indicative of the rate of retention of the Company's revenue base,
and contract value at any time may not be indicative of future advisory and
measurement revenues or cash flows if the rate of renewal of contracts, or the
timing of new business, were to significantly change during the following twelve
months compared to historic patterns. Total deferred revenues of $290.3 million
and $291.1 million at June, 30, 1999 and September 30, 1998, respectively, as
presented in the Company's Consolidated Balance Sheets, represent unearned
revenues from advisory and measurement services and products plus unearned
revenues of certain other business products and services not included in
advisory and measurement services and products. Deferred revenues do not
directly correlate to contract value as of the same date, since contract value
represents an annualized value of all outstanding contracts without regard to
the duration of such contracts, and deferred revenue represents unamortized
revenue remaining on all outstanding contracts including advisory and
measurement and certain other services and products not included in advisory and
measurement revenue.
Other revenues for the third quarter of fiscal 1999 increased 50% to $51.3
million compared to $34.1 million for the third quarter of fiscal 1998. For the
nine months ended June 30, 1999, other revenues were $147.4 million, up 49% from
$98.9 million for the same period in the prior fiscal year. Other revenues
consist principally of revenues from consulting engagements and conferences. The
increase of $17.2 million for the third quarter of fiscal 1999 over the third
quarter of fiscal 1998 was primarily a result of the expansion of consulting
services to new geographic regions and incremental revenues resulting from
current and prior year acquisitions. Year-to-date, the increase in other
revenues over the prior fiscal year is attributable to increased consulting
revenue and revenue from the Company's Symposia conferences and ITxpo exhibition
events held annually during the first quarter of the fiscal year, new events as
well as an increase in exhibit revenues.
OPERATING INCOME increased 8% to $38.1 million, or 21% of total revenues, for
the third quarter of fiscal 1999, from $35.5 million, or 22% of total revenues,
for the third quarter of fiscal 1998. Operating income was $123.5 million for
the nine months ended June 30, 1999, an increase of 15% over the $107.7
10
<PAGE> 11
million for the same period in the prior fiscal year. The effect of fluctuations
in foreign exchange rates did not have a significant impact on operating income
during the third quarter of either fiscal 1999 or 1998. Excluding
acquisition-related and nonrecurring charges incurred in the respective periods
presented (collectively the "special charges"), operating income for the three
and nine months periods ended June 30, 1999 increased by approximately 12% and
11%, respectively, over the same periods in the prior fiscal year.
Costs and expenses, excluding the special charges, increased to $146.0 million
in the third quarter of fiscal 1999 from $125.5 million in the third quarter of
fiscal 1998. Year-to-date total costs and expenses, excluding the special
charges, were $418.0 million compared to $356.4 million for the same period in
the prior fiscal year. The increase in costs and expenses over the prior fiscal
year for both the three and nine month periods ended June 30, 1999 primarily
reflects an increase in staffing to support the advisory, measurement and
consulting services, incremental costs associated with conferences and
additional costs associated with acquisitions. Cost of services and product
development expenses were $74.4 million and $62.9 million for the third quarter
of fiscal 1999 and 1998, respectively, and $214.2 million and $181.4 million for
the nine months ended June 30, 1999 and 1998, respectively. Costs related to the
delivery of advisory and measurement services are treated as period costs which
are expensed as incurred. The increase in expenses over the prior fiscal year
reflects the need to provide additional support to the growing client base,
costs associated with acquired businesses and continued product development
costs. Selling, general and administrative expenses, which were $63.5 million
and $55.6 million for the third quarter of fiscal 1999 and 1998, respectively,
and $180.5 million and $155.1 million for the nine months ended June 30, 1999
and 1998, respectively, increased as a result of the Company's continuing
expansion of worldwide distribution channels and additional general and
administrative resources needed to support the growing revenue base and the
impact of acquisitions. Although the Company has added general and
administrative resources to support the growing revenue base, selling, general
and administrative expenses have remained relatively unchanged as a percentage
of total revenues at 34% and 35% for the third quarter of fiscal 1999 and 1998,
respectively, and flat as a percentage of total revenues at 33% for the nine
months ended June 30, 1999 and 1998, respectively.
For the nine months ended June 30, 1999, the Company recorded pre-tax,
nonrecurring charges totaling $5.9 million related to the Company's recent
reorganization and recapitalization. Approximately one-half of the charge
relates to severance benefits as a result of certain job eliminations associated
with the Company's recent reorganization. The remainder of the charge pertains
to legal and advisory fees associated with the recapitalization of the Company.
In addition, in the second quarter of fiscal 1999, the Company recorded a
one-time income tax benefit of $2.5 million primarily as a result of the
settlement of certain Federal income tax examinations through fiscal 1997. For
the nine months ended June 30, 1998, the Company recorded pre-tax, nonrecurring
charges, primarily consisting of relocation and severance costs, totaling $2.8
million related to the Company's relocation of certain accounting and order
processing operations from Stamford, Connecticut to a new financial services
center in Fort Myers, Florida. Also in fiscal 1998, the Company incurred an
acquisition-related charge from a $6.3 million write-off of purchased in-process
research and development costs in connection with the acquisition of Interpose,
Inc. The amount of the write-off was reduced to $4.5 million in the fourth
quarter of fiscal 1998 in response to new guidance from the Securities and
Exchange Commission.
Depreciation expense for the third quarter of fiscal 1999 increased to $5.5
million compared to $4.6 million for the third quarter of fiscal 1998. For the
nine months ended June 30, 1999 depreciation expense increased to $16.0 million
compared to $12.8 million for the same period in the prior fiscal year. The
increases were the result of capital spending required to support business
growth.
Amortization expense remained relatively unchanged as a result of increased
amortization expense related to recent acquisitions offset by the reduction of
amortization expense resulting from the sale of GartnerLearning in September
1998. Amortization expense for the third quarter of fiscal 1999 was $2.6
11
<PAGE> 12
million as compared to $2.5 million for the third quarter of fiscal 1998. For
the nine months ended June 30, 1999 amortization expense increased to $7.3
million compared to $7.1 million for the same period in the prior fiscal year.
INTEREST INCOME, NET was $2.6 million for the third quarter of fiscal 1999, up
from $2.2 million for the third quarter of fiscal 1998. For the nine months
ended June 30, 1999 and 1998, interest income, net was $7.6 million and $6.9
million, respectively. This increase was attributable to a higher average
balance of investable funds during the nine months ended June 30, 1999 as
compared to the same period in the prior fiscal year, partially offset by
changes in the mix of investable funds to principally short-term tax-free and
tax-advantaged investments which generally have lower interest rates compared to
long-term taxable investments.
PROVISION FOR INCOME TAXES was $14.3 million in the third quarter of fiscal
1999, down from $14.7 million in the same quarter of fiscal 1998. The effective
tax rate for the third quarter was approximately 35% which resulted primarily
from the benefit of the reduction in the Company's year-to-date effective tax
rate (excluding the tax benefit of nonrecurring charges) to 37% from 38%. This
decrease is primarily the result of on-going tax planning initiatives. The
year-to-date effective tax rate was approximately 35% which includes a one-time
tax benefit of $2.5 million resulting from the settlement of certain Federal
income tax examinations through fiscal 1997 recognized during the second quarter
of fiscal 1999.
DILUTED EARNINGS PER COMMON SHARE increased 14% to 25 cents per common share for
the third quarter of fiscal 1999, compared to 22 cents per common share for the
third quarter of fiscal 1998. For the nine months ended June 30, 1999 and 1998,
diluted earnings per common share were 80 cents per common share and 65 cents
per common share, respectively, an increase of 23%. Excluding the impact of
nonrecurring charges, diluted earnings per share were 26 cents per common share
for the third quarter and 82 cents per common share for the nine months ended
June 30, 1999. Basic earnings per common share increased to 25 cents for the
third quarter of fiscal 1999 from 23 cents for the same period a year ago. Basic
earnings per common share was 83 cents for the nine months ended June 30, 1999
compared to 69 cents for the same period last year.
QUARTERLY OPERATING INCOME TRENDS. Historically, the Company has realized
significant renewals and growth in contract value at the end of quarters. The
fourth quarter of the fiscal year typically is the fastest growth quarter for
contract value and the first quarter of the fiscal year typically represents the
slowest growth quarter as it is the quarter in which the largest amount of
contract renewals are due. As a result of the quarterly trends in contract value
and overall business volume, fees receivable, deferred revenues, deferred
commissions and commissions payable reflect this activity and typically show
substantial increases at quarter end, particularly at fiscal year end. All
advisory and measurement contracts are billable upon signing, absent special
terms granted on a limited basis from time to time. All contracts are
non-cancelable and non-refundable, except for government contracts which have a
30-day cancellation clause, but which have not produced material cancellations
to date. The Company's policy is to record at the time of signing of an advisory
and measurement contract the portion of the contract that is billable as
deferred revenue and fees receivable. The Company also records the related
commission obligation upon the signing of the contract and amortizes the
corresponding deferred commission expense over the contract period in which the
related advisory and measurement revenues are earned and amortized to income.
Historically, total revenues have increased in the first quarter of the ensuing
fiscal year over the immediately preceding quarter due to annual conferences and
exhibition events held in the first quarter. Additionally, operating income
margin (operating income as a percentage of total revenues) typically improves
in the first quarter of the fiscal year versus the immediately preceding
quarter. The operating income margin improvement in the first quarter of the
fiscal year is due to the increase in operating
12
<PAGE> 13
income generated on the first quarter Symposia and ITxpo exhibition events plus
an increase in advisory and measurement revenue upon which the Company is able
to further leverage its selling, general and administrative expenses. Operating
income margin in the second quarter is typically consistent with the first
quarter. In the second quarter of fiscal 1999, the spring symposium event and
management's ability to control discretionary spending and variable costs linked
to financial performance favorably impacted operating margin. Operating income
margin generally is not as high in the third and fourth quarters of the fiscal
year compared to the first and second quarters. Additionally, the Company
historically does not fully increase its level of spending until after the first
quarter of the fiscal year, when the rate of growth in revenues and contract
value becomes known. As a result, growth in operating expenses has typically
lagged behind growth in revenues within a given year, and operating income
margin has generally been higher in the earlier quarters of the fiscal year.
Therefore, the operating income for the first two quarters of fiscal 1999 may
not be indicative of the quarterly operating results for the remainder of the
fiscal year.
OTHER FACTORS THAT MAY AFFECT FUTURE PERFORMANCE. The Company's future operating
results will depend upon the Company's ability to continue to compete
successfully in the market for information products and services. The Company
faces competition from a significant number of independent providers of similar
services, as well as the internal marketing and planning organizations of the
Company's clients. The Company also competes indirectly against other
information providers, including electronic and print media companies and
consulting firms. In addition, there are limited barriers to entry into the
Company's market and additional new competitors could readily emerge. There can
be no assurance that the Company will be able to continue to provide the
products and services that meet client needs as the Information Technology
("IT") market rapidly evolves, or that the Company can otherwise continue to
compete successfully. In this regard, the Company's ability to compete is
largely dependent upon the quality of its personnel, including its senior
management team, sales staff and IT analysts. Competition for qualified
personnel is intense. Given the ongoing competition for qualified personnel and
the impact of the Company's recapitalization, there can be no assurance that the
Company will be able to attract and retain additional qualified personnel,
including IT staff, as may be required to support the evolving needs of clients
or any growth in the Company's business. Any failure to maintain a premier staff
of IT analysts could adversely affect the quality of the Company's products and
services, and therefore its future business and operating results. Additionally,
there may be increased credit risk and turnover of accounts as the Company
continues to expand its product and service offerings to smaller companies.
The Company's operating results are also subject to risks inherent in
international sales, including changes in market demand as a result of exchange
rate fluctuations, tariffs and other barriers, challenges in staffing and
managing foreign sales operations, and higher levels of taxation on foreign
income than domestic income. Further expansion would require additional
management attention and financial resources.
To finance the stock repurchase, the Company will use available cash and will
incur up to approximately $500 million of debt financing. The Company's ability
to make principal and interest payments on outstanding debt will depend on its
future operating performance. The Company's future operating performance itself
depends on a number of factors, many of which are outside of its control. These
factors include prevailing economic conditions and financial, competitive and
other factors affecting the Company's business and operations. In addition, the
terms of debt financing will limit the amount of cash or borrowings available to
the Company in the future, and this could adversely affect the Company's future
operations. Although based on current levels of operations the Company believes
that its cash flow from operations, together with other sources of liquidity,
will be adequate to make required payments of principal and interest on debt,
whether at or prior to maturity, finance anticipated capital expenditures and
fund working capital requirements, there can be no assurance that sources of
cash will indeed be sufficient for such purposes.
13
<PAGE> 14
The distribution of the Company's Class B Common Stock by IMS Health to IMS
Health stockholders, the recapitalization and the other transactions were made
possible by the tax-free nature of the distribution. IMS Health received a
favorable ruling from the IRS that the distribution would be tax-free to IMS
Health and its stockholders. The IRS ruling and the underlying tax laws provide
that the distribution can become taxable to IMS Health and its stockholders upon
the occurrence of certain share transactions that the Company may undertake as
well as other changes in the ownership of Gartner Group stock among its
stockholders. The Company has agreed to indemnify IMS Health for additional
taxes that may become payable by IMS Health or its stockholders, if
attributable to certain actions taken by the Company. This indemnification
obligation could result in liabilities to the Company of $300 million or more.
YEAR 2000 ISSUES. The Year 2000 problem results from the fact that many
technology systems have been designed using only a two-digit representation of
the year portion of the date. This has the potential to cause errors or failures
in those systems that depend on correct interpretation of the year, but cannot
necessarily correctly interpret "00" as the year "2000". While the potential
ramifications of the Year 2000 issue are significant, the Company believes that
it is taking full advantage of its internal resources and all necessary external
resources to understand, identify and correct all Year 2000 issues within its
control. The Company recognizes that there are significant unknowns, hence
potential risks, that are outside its control and will take all reasonable steps
to minimize the impact of those exposures.
The Company is on target to have made all essential IT and non-IT systems Year
2000 ready before their known failure dates or January 1, 2000, whichever is
sooner. All products of the Company are, or are expected to be Year 2000 ready
before their known failure dates or by January 1, 2000, whichever is sooner.
Should any date-related problems be revealed after that point, they will be
fixed at no extra charge to the client or replaced with a product of equal
value. The Company has tested and certified as Year 2000 compliant the majority
of its internal custom applications and expect to complete the testing and
certification of remaining internal custom applications by September 30, 1999.
Additionally, the Company expects to continue to take all prudent and reasonable
steps to validate the Year 2000-readiness of its direct supply chain interfaces
and is developing a comprehensive contingency plan to deal with potential
disruptions. The Company believes that this area does, and will continue to,
represent a significant level of uncertainty and business risk at least through
the first half of the year 2000.
The Company has established a separate Year 2000 account to budget and track
significant fiscal 1999 Year 2000 expenditures. All maintenance and modification
costs are expensed as incurred, while the cost of new systems is being
capitalized according to generally accepted accounting principles. Identified
Year 2000 costs were $4.1 million for the nine months ended June 30, 1999, and
are forecasted to be $1.1 million for the remaining three months of fiscal 1999.
These costs are predominantly for the budgeted replacement or upgrades of the IT
and non-IT systems, but also include personnel standard unit costs. The Company
believes that the Year 2000 problem may result in an increased percentage of IT
department budgets being directed toward Year 2000 remediation expenditures in
the near term. If this occurs, changes in client buying practices could result
in either an increase or decrease in the demand for the Company's products and
services and, therefore, have the potential of benefiting or adversely impacting
future Company revenues and revenue patterns. Additional information on Year
2000 issues can be found in the Company's Form 10-K for the fiscal year ended
September 30, 1998.
EURO CONVERSION. On January 1, 1999, eleven of the fifteen member countries of
the European Union established fixed conversion rates between their sovereign
currencies and a new currency called the "euro" and adopted the euro as their
common legal currency on that date. In the year 2002, participating countries
will adopt the euro as their single currency. Until that date, use of the euro
is optional.
The Company is unable to determine the potential impact the adoption of the euro
may have on competitive conditions in European markets. However, the Company
does not believe that the translation of financial transactions into euros has
had or will have a significant effect on the Company's results of
14
<PAGE> 15
operations, liquidity, or financial condition. Additionally, the Company does
not anticipate any material impact from the euro conversion on the Company's
financial information systems which currently accommodate multiple currencies.
Costs associated with the adoption of the euro are not expected to be
significant and will be expensed as incurred.
LIQUIDITY AND CAPITAL RESOURCES
The Company's continued focus on revenue and operating income increases has
contributed to its ability to continue building cash and utilizing it to make
strategic investments and acquisitions. As of June 30, 1999, total cash and cash
equivalents and marketable securities (including both current and long-term
maturities) increased to $284.0 million. Cash provided by operating activities
totaled $69.1 million for the nine months ended June 30, 1999 (compared to $62.3
million provided by operating activities for the nine months ended June 30,
1998) reflecting primarily the impact of increased revenues and related changes
in the balance sheet accounts. Cash used in investing activities was $35.1
million for the nine months ended June 30, 1999 (compared to $124.4 million of
cash used in the first nine months of fiscal 1998) due to the net effect of cash
used in property and equipment additions of $22.4 million, acquisitions and
investments in consolidated and unconsolidated subsidiaries of $44.4 million and
$31.8 million of cash provided by maturing marketable securities. Cash provided
by financing activities totaled $20.4 million for the nine months ended June 30,
1999 (compared to $61.0 million of cash provided for the nine months ended June
30, 1998). The cash provided by financing activities resulted primarily from
$14.5 million received from the issuance of common stock upon the exercise of
employee stock options and a $13.0 million increase in additional paid-in
capital for tax benefits received from stock transactions with employees which
were partially offset by $8.4 million of cash used in the settlement of forward
purchase agreements. The tax benefit of stock transactions with employees is due
to the reduction in the corporate income tax liability based on an imputed
compensation deduction equal to employees' gain upon the exercise of stock
options at an exercise price below fair value. Forward purchase contracts on the
Company's common stock were originally established to facilitate the acquisition
of 1,800,000 shares of Class A Common Stock necessary to offset a portion of the
shareholder dilution that will be created by the exercise of stock options
reserved for issuance and granted under the Company's 1996 Long Term Stock
Option Plan.
The effect of exchange rates decreased cash and cash equivalents by $0.9 million
through the nine months ended June 30, 1999, and was due to the strengthening of
the US dollar versus certain European currencies. The Company has available two
unsecured credit lines, with Chase Manhattan Bank and The Bank of New York for
$25.0 million and $5.0 million, respectively. These lines may be canceled by the
banks at any time without prior notice or penalty. Additionally, the Company
issues letters of credit in the ordinary course of business. The Company had
outstanding letters of credit with Chase Manhattan Bank of approximately $3.8
million and $2.0 million with The Bank of New York at June 30, 1999. Except as
described below regarding the stock repurchases, the Company believes that its
current cash balances and maturing marketable debt securities, together with
cash anticipated to be provided by operating activities and borrowings available
under the existing lines of credit, will be sufficient for the expected
short-term and foreseeable long-term cash needs of the Company.
The Company's tender offer and any subsequent open market purchases will require
a significant amount of cash to fund the repurchase of common shares. The
Company will fund the repurchases through existing cash and borrowings under
credit facilities. On July 16, 1999, the Company entered into a Credit Agreement
with The Chase Manhattan Bank, as administrative agent for the participating
financial institutions thereunder, providing for a maximum of $500 million of
credit facilities, consisting of a $350 million term loan and a $150 million
senior revolving credit facility. Under the Credit Agreement, the Company and
its subsidiaries are subject to certain customary affirmative, negative and
financial covenants. Based on current levels of operations, the Company believes
that its cash flow from
15
<PAGE> 16
operations, together with other sources of liquidity, will be adequate to make
required payments of principal and interest on debt, whether at or prior to
maturity, finance anticipated capital expenditures and fund working capital
requirements.
Item 3. Quantitative and Qualitative Disclosures about Market Risk.
Amounts invested in the Company's foreign operations are translated into U.S.
dollars at the exchange rates in effect at quarter end. The resulting
translation adjustments are recorded as cumulative translation adjustment, a
component of stockholders' equity, in the Condensed Consolidated Balance Sheets.
PART II OTHER INFORMATION
Item 5. Other Information
On July 16, 1999, after stockholder approval was obtained at a Special Meeting
of Stockholders (the "Special Meeting"), the Company effected a recapitalization
of its Common Stock into two classes of Common Stock, consisting of Class A
Common Stock and Class B Common Stock, and the issuance of an aggregate of
40,689,648 shares of Class B Common Stock to IMS Health in exchange for a like
number of shares of Class A Common Stock held by IMS Health. The exchange was
effected by means of the merger of GRGI, Inc., a newly formed, wholly owned
subsidiary of IMS Health, with the Company. On July 26, 1999, IMS Health
distributed such shares of Class B Common Stock pro rata to its stockholders of
record as of July 17, 1999 in a tax-free spin-off.
At the Special Meeting, the Company's stockholders also approved an amendment to
the Company's Certificate of Incorporation to create a classified Board of
Directors, consisting of three classes having staggered three-year terms.
Separately, Robert Weissman of IMS Health resigned from the Company's Board in
connection with the reduction in IMS Health's equity interest in the Company
and, the Company amended its bylaws to increase the number of members on its
Board of Directors to ten members, and Anne Sutherland Fuchs, Charles B. McQuade
and Kenneth Roman were appointed to fill the vacancies on the Board. The
Company's stockholders also approved an amendment to the Company's Certificate
of Incorporation to increase the authorized capital stock of the Company to
250,000,000 shares of Common Stock (166,000,000 shares of Class A Common Stock
and 84,000,000 shares of Class B Common Stock) and 5,000,000 shares of Preferred
Stock. The Class B Common Stock is identical in all respects to the Class A
Common Stock, except that the Class B Common Stock is entitled to elect at least
80% of the members of the Company's Board of Directors.
On July 22, 1999, the Company paid a special, nonrecurring cash dividend of
$1.1945 per share (representing a total dividend of approximately $125 million)
to all Company stockholders of record as of the close of business on July 16,
1999.
In connection with the recapitalization, on July 27, 1999, the Company commenced
a Dutch Auction tender offer to purchase up to 15,700,000 shares, or
approximately 15%, of its outstanding Common Stock. The tender offer provides
for the purchase of both Class A Common Stock and Class B Common Stock, in the
same proportion as the ratio of shares of Class A Common Stock and Class B
Common Stock outstanding as of July 26, 1999 and at as near to the same price as
practical. The tender offer will expire on August 24, 1999, unless extended. In
addition, the Company has agreed to repurchase an additional 5% of the combined
outstanding Class A Common Stock and Class B Common Stock in open market
purchases over the next two years.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibit Number Description of Document
27.1 Financial Data Schedule
The Company did not file any reports on Form 8-K during the quarter ended
June 30, 1999. Items 1, 2, 3 and 4 are not applicable and have been omitted.
16
<PAGE> 17
SIGNATURE
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.
Gartner Group, Inc.
Date August 12, 1999 /s/ Michael D. Fleisher
-----------------------------
Michael D. Fleisher
Executive Vice President
and Chief Financial Officer
(Principal Financial and
Accounting Officer)
17
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THE SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
ACCOMPANYING FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> JUN-30-1999
<EXCHANGE-RATE> 1
<CASH> 211,204
<SECURITIES> 69,500
<RECEIVABLES> 238,241
<ALLOWANCES> 4,147
<INVENTORY> 0
<CURRENT-ASSETS> 556,684
<PP&E> 132,350
<DEPRECIATION> 73,567
<TOTAL-ASSETS> 905,642
<CURRENT-LIABILITIES> 371,561
<BONDS> 0
0
0
<COMMON> 58
<OTHER-SE> 533,431
<TOTAL-LIABILITY-AND-EQUITY> 905,642
<SALES> 547,366
<TOTAL-REVENUES> 547,366
<CGS> 214,154
<TOTAL-COSTS> 214,154
<OTHER-EXPENSES> 209,722
<LOSS-PROVISION> 3,159
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 131,138
<INCOME-TAX> 45,793
<INCOME-CONTINUING> 85,345
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 85,345
<EPS-BASIC> 0.83<F1>
<EPS-DILUTED> 0.80
<FN>
<F1>Amount reported is EPS-BASIC
</FN>
</TABLE>
