<PAGE>
FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended April 4, 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 0-18655
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THE FAILURE GROUP, INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 77-0218904
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(State or other jurisdiction (I.R.S. Employer
of incorporation) Identification Number)
149 COMMONWEALTH DRIVE, MENLO PARK, CALIFORNIA 94025
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(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code (415) 326-9400
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES [X] No
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Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at May 16, 1997
- ---------------------------- ---------------------------
Common Stock $.001 par value 7,294,422 shares
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
THE FAILURE GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
April 4, 1997 and January 3, 1997
(in thousands, except share data)
<TABLE>
<CAPTION>
April 4, 1997 January 3, 1997
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<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents.................................... $ 4,672 $ 4,465
Short-term investments....................................... 12,238 20,271
Accounts receivable, net of allowance for doubtful accounts of
$1,500 for April 4, 1994 and March 29, 1996.................. 24,697 19,710
Prepaid expenses and other assets............................ 4,955 4,927
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Total current assets..................................... 46,562 49,373
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Property, equipment and leasehold improvements, net............... 29,043 28,789
Other assets...................................................... 2,800 2,416
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$78,405 $80,578
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Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable and accrued liabilities..................... 2,661 $ 4,047
Notes payable and current installments of long-term obligations 626 1,250
Accrued payroll and employee benefits........................ 5,183 5,590
Income taxes payable......................................... - 928
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Total current liabilities................................ 8,470 $11,815
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Long-term obligations, net of current installments................ 18,525 18,505
Deferred income taxes............................................. 987 987
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Total liabilities........................................ $27,982 $31,307
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Stockholders' equity:
Common stock................................................. 8 8
Additional paid-in capital................................... 33,001 $33,013
Net unrealized gain on investments........................... 7 56
Retained earnings............................................ 22,815 21,644
Treasury shares, at cost: 1,088,076 and 1,096,659
shares at April 4, 1997 and January 3, 1997, respectively (5,408) (5,450)
-------- --------
Total stockholders' equity............................... 50,423 49,271
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$78,405 $80,578
======= =======
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
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THE FAILURE GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
For the Quarters Ended April 4, 1997 and March 29, 1996
(in thousands, except per share data)
<TABLE>
<CAPTION>
Quarters Ended
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April 4, 1997 March 29, 1996
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<S> <C> <C>
Revenues
Professional fees............................................ $ 16,426 $ 13,544
Equipment fees and net billed expenses....................... 1,246 1,348
Other revenue................................................ 205 119
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$ 17,877 $ 15,011
Operating Expenses
Professional compensation and related expenses............... 11,312 9,378
Other operating expenses..................................... 3,365 3,173
General and administrative expenses.......................... 1,587 1,411
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$ 16,264 $ 13,962
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Operating income......................................... 1,613 1,049
Other income................................................. 355 36
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Income before taxes...................................... 1,968 1,085
Provision for income taxes ....................................... 797 439
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Net income................................................... $1,171 $ 646
======== =========
Net income per share ............................................. $ 0.17 $ 0.10
======== =========
Weighted average number of common shares ......................... 6,938 6,633
======== =========
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
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THE FAILURE GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Three Months Ended April 4, 1997 and March 29, 1996
(in thousands)
<TABLE>
<CAPTION>
Three Months Ended
------------------------------
April 4, March 29,
1997 1996
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<S> <C> <C>
Cash flows from operating activities:
Net income......................................................... $ 1,171 $ 646
Adjustments to reconcile net income to net cash (used)/provided by
operating activities:
Depreciation and amortization................................... 525 873
Provision for doubtful accounts................................. 14 326
Changes in operating assets and liabilities
Accounts receivable............................................. (4,723) 811
Prepaid expenses................................................ (965) 51
Accounts payable and accrued liabilities........................ (1,728) (834)
Accrued payroll and employee benefits........................... (479) 133
Income taxes payable and current deferred income tax............ 27 183
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Net cash (used)/provided by operating activities............ (6,158) 2,189
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Cash flows from investing activities:
Capital expenditures............................................... (614) (720)
Acquisition of BCS, Inc., net of cash acquired..................... (314) -
Acquisition of PLG, Inc............................................ - (501)
Sales of short-term investments.................................... 9,030 1,858
Purchases of short-term investments..............................
(1,064) (1,955)
Other assets....................................................... 101 (7)
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Net cash provided/(used) by investing activities................ 7,139 (1,325)
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Cash flows from financing activities:
Proceeds from borrowings and issuance of long-term obligations.. 7 4
Repayments of borrowings and long-term obligations.............. (811) (51)
Net purchases of common stock................................... - (510)
Net issuance and retirements of common stock.................... 30 72
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Net cash used by financing activities.................................. (774) (485)
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Net increase in cash and cash equivalents.............................. 207 379
Cash and cash equivalents at beginning of period....................... 4,465 7,401
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Cash and cash equivalents at end of period............................. $ 4,672 $ 7,780
======== ========
</TABLE>
The accompanying notes are an integral part of these
condensed consolidated financial statements
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<PAGE>
THE FAILURE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE FISCAL QUARTERS ENDED
APRIL 4, 1997 AND MARCH 29, 1996
NOTE 1: BASIS OF PRESENTATION
The Failure Group, Inc. ("FGI" and, together with its subsidiaries, the
"Company") is a multidisciplinary organization providing engineering consulting,
scientific, investigation and information support services. The Company operates
on a 52-53 week fiscal calendar year ending on the Friday closest to the last
day of December.
The accompanying condensed, consolidated financial statements are prepared in
accordance with generally accepted accounting principles and include the
accounts of FGI and its subsidiaries. All significant intercompany transactions
and balances have been eliminated in consolidation. In the opinion of
management, all adjustments which are necessary for the fair presentation of the
condensed consolidated financial statements have been included and all such
adjustments are of a normal and recurring nature. The operating results for the
fiscal quarters ended April 4, 1997 and March 29, 1996, are not necessarily
representative of the results of future quarterly or annual periods.
Administrative compensation expense which had been included in general and
administrative expenses has been reclassified to professional compensation.
Additionally, bad debt expense which had been included in other operating
expense is now included in general and administrative expenses. Prior year
numbers have been restated to conform with the current presentation.
NOTE 2: ACQUISITIONS
On August 1, 1996, the Company acquired all the outstanding capital stock of
Environmental Health Strategies, Inc., ("EHS") for a combination of cash and
stock. On January 4, 1997 the Company acquired all the outstanding capital stock
of Broadcast Communication Systems, Inc., ("BCS"). The results of operations of
these acquisitions have been included in the accompanying, condensed,
consolidated financial statements from the date of their acquisition. The
inclusion of these acquisitions are considered immaterial, thus separate
disclosure is not stated.
On April 27, 1997, the Company signed a definitive agreement to acquire
Performance Technologies, Incorporated ("PTI"), a privately-held environmental
science and engineering firm. The acquisition will be consummated on May 16,
1997, whereby, FGI will acquire all the stock of PTI for $7.5 million in cash
and 480,002 shares of stock, valued at approximately $2.4 million. The
acquisition will be accounted for under the purchase method of accounting and,
accordingly, the purchase price will be allocated to the net assets acquired
based on the estimated fair market value at the date of acquisition. Of the
total purchase price, the Company expects that approximately $7.2 million will
be recorded as goodwill, which reflects the excess of the purchase price over
the fair value of the net assets acquired. The goodwill is expected to be
amortized over twenty years using the straight-line method.
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NOTE 3: RECENT ACCOUNTING PRONOUNCEMENTS
In January 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128,"Earnings Per Share". SFAS 128 requires
the presentation of basic earning per share ("EPS") and, for companies with
complex capital structures [or potentially dilutive securities, such as
convertible debt, options and warrants], diluted EPS. SFAS No. 128 is effective
for the annual and interim periods ending after December 15, 1997. The Company
expects that basic EPS will be higher than primary earnings per share as
presented in the accompanying consolidated financial statements and that diluted
EPS will not differ materially from fully diluted earning per share as presented
in the accompanying consolidated financial statements.
NOTE 4: SUPPLEMENTAL CASH FLOW INFORMATION
The following is supplemental disclosure of cash flow information, in thousands.
Quarters Ended
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April 4, 1997 March 29, 1996
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Cash paid during the period:
Interest $ 342 $ 554
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Income taxes $ 1,883 $ 256
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<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the attached
unaudited, condensed, consolidated financial statements and notes thereto and
with the Company's audited consolidated financial statements and notes thereto
for the fiscal year ended January 3, 1997, which is contained in the Company's
1996 Annual Report on Form 10K.
GENERAL
The Company derives a substantial majority of its revenues from professional
service activities. Revenues from professional services are principally derived
under "time and expenses" and "fixed-fee" billing arrangements, and are recorded
as work is performed. Professional fees are a function of the total number of
hours billed to clients and the associated hourly billing rates or fixed-fee
arrangement with the client. The Company also derives revenue from equipment
fees and net billed expenses which consist primarily of fees charged to clients
for use of the Company's equipment and facilities in connection with services
provided. Other revenue is generated primarily from photographic services. The
Company's principal expenses are professional compensation and related expenses.
RESULTS OF OPERATIONS
1997 fiscal quarter ended April 4, 1997 compared to 1996 fiscal quarter ended
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March 29, 1996
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Revenues for the first quarter of 1997 were $17.9 million compared to $15.0
million for the same fiscal quarter of 1996, an increase of 19.1%. Approximately
$1 million of revenue for the first quarter of 1997 were contributed from
business units of the Company acquired between the end of the first quarter of
1996 and the end of the first quarter of 1997, (the "Acquired Businesses").
Excluding the revenues attributed to such acquisitions, professional fees were
$15.4 million for the quarter, 14.1% higher than the $13.5 million for the
comparable quarter of 1996. This increase is a result of a higher average
billable rate compared to the same period in the previous year.
Equipment fees and net billed expenses for first quarter ended April 4, 1997,
reflected a decline of 7.6%, as compared to the same period in 1996. The
decrease was a result of a decline in the usage of the Company's software and
database equipment and a reduction in the usage of the Company's test facility
in Phoenix for non-litigation projects.
The Company will strive to grow revenues through continued recruitment of new
personnel for selected practice areas, increase marketing efforts and ongoing
exploration of potential acquisition opportunities, yet there is no assurance
such revenues growth can be achieved.
Compensation and related expenses, which relate to employees involved directly
in the Company's consulting/professional practice, increased 20.2% to $11.3
million for the first quarter of 1997 as compared to $9.4 million for the same
period in 1996. Approximately $754,000 of the increase was the result of the
addition of new technical staff, offset by a decline in non-technical employees,
and approximately $707,000 was from the inclusion of compensation and related
expenses attributable to the Acquired Businesses. Compensation, as a percentage
of total revenues, was 63.3% for the first quarter of 1997 as compared to 62.5%
for the same period in 1996.
Other operating expenses in the first quarter of 1997 increased 6.1% to $3.4
million from $3.2 million in the comparable quarter of 1996. This
quarter-to-quarter increase was primarily due to the inclusion of operating
expenses attributable to the Acquired Businesses, totaling approximately
$176,000. Excluding
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<PAGE>
such expenses, other operating expenses remained flat on a quarter-to-quarter
comparison. Other operating expenses were 18.8% of total revenues for the first
quarter of 1997 as compared to 21.1% for the comparable quarter of 1996.
Excluding $211,000 for the inclusion of general and administrative expenses
attributable to the Acquired Businesses, general and administrative expenses
remained relativity flat at $1.4 million for the first quarter of 1997 and for
the same period in 1996. General and administrative expenses represented 8.9% of
total revenues for the first quarter of 1997 compared to 9.4% for the first
quarter of 1996.
Other income (expense) consists primarily of interest expense on the Company's
mortgage obligation, net of investment income earned on available cash and
short-term investments and rental income from leasing excess space in the
Company-owned operating facilities located in Menlo Park, California. It
increased from $36,000 in the first quarter 1996 to $355,000 for the first
quarter of 1997. This change was due to from higher rental income, coupled with
lower interest expense on the Company's building mortgage. In August 1996, the
Company refinanced its building mortgage which held a 10.75 percent fixed rate
note, amortized on a 30-year basis with the balance due in 1999, to the new note
in the amount of $18.7 million, having a 15-year term with a floating rate tied
to LIBOR. This rate is subject to adjustment every six months.
LIQUIDITY AND CAPITAL RESOURCES
1997 fiscal quarter ended April 4, 1997 compared to 1996 fiscal quarter ended
- -----------------------------------------------------------------------------
March 29, 1996
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Net cash used by operating activities was $6.2 million in the first three months
of 1997 compared to net cash provided by operating activities of $2.2 million
for the comparable period of fiscal 1996. This quarter-to-quarter decrease can
be attributed to the change in accounts receivable compared to the prior year.
Accounts receivable represented 139 days of revenue at April 4, 1997 compared
with 106 days at March 29, 1996. The Company is focused on this issue and
anticipates a reduction in the receivable balance in the future; however there
can be no assurance that the Company will be successful in such efforts.
Net cash provided by investing activities was $7.1 million for the first quarter
of 1997 as compared to net cash used by investing activities of $1.3 million for
the comparable quarter of 1996. This increase was a result of reducing
short-term investments to make cash available for acquisitions, capital
expenditures and day-to-day activities.
Net cash used by financing activities was $774,000 for the first three months of
fiscal 1997 compared to $485,000 in the comparable period of fiscal 1996. A
significant portion of the cash used was for a principal paydown on the
Company's building mortgage.
At April 4, 1997, the Company had $4.7 million in cash balances, $12.2 million
in short-term investments and a $10 million line of credit agreement. There were
no borrowings against the line of credit in the first quarter of 1997. The
Company's long-term obligations on April 4, 1997, consisted primarily of a
mortgage obligation for the Company's corporate office facility in the San
Francisco area in the amount of $18.1 million. Management believes that its
existing cash and short-term investment balances, together with existing bank
credit facilities and funds generated from operations, will provide adequate
cash to fund the Company's anticipated cash needs through at least the next
twelve-month period.
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<PAGE>
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit 11.1, "Statement Regarding Computation of Net Income Per
Share"
Exhibit 27.1 "Financial Data Schedule"
(b) No reports on Form 8-K were filed during the quarter for which this
report is filed
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<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.
THE FAILURE GROUP, INC.
-------------------------
Registrant
Date: May 19, 1997 /s/ Michael R. Gaulke
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Michael R. Gaulke
President and CEO
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<PAGE>
INDEX TO EXHIBITS
-----------------
Exhibit
Number Description of Document Page
- ------- ----------------------- ----
11.1 Statement Regarding Computation of Net Income 12
Per Share
27.1 Financial Data Schedule 13
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<PAGE>
EXHIBIT 11.1
THE FAILURE GROUP, INC. AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF
NET INCOME PER SHARE
FOR THE THREE MONTHS ENDED APRIL 4, 1997 AND MARCH 29, 1996
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Quarters Ended(1)
------------------------
April 4, March 29
1997 1996
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<S> <C> <C>
Weighted average shares issued and outstanding-
Common stock......................................... 6,806 6,633
Common stock equivalents-options and awards(2)........... 132 -
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Weighted average number of common shares................. 6,938 6,633
======= =======
Net income............................................... $ 1,171 $ 646
======= =======
Net income per share..................................... $ .17 $ .10
======= =======
</TABLE>
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(1) The modified treasury stock method was used as shares obtainable
exceeded 20% of the Common Stock outstanding at the end of the period.
The assumed reduced interest expense resulting from the application of
this method is immaterial.
(2) The dilutive impact of options and awards determined using the
fully-diluted calculation is not materially different from the dilutive
impact represented in this statement determined using the primary
calculation.
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<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JAN-03-1997
<PERIOD-START> JAN-04-1997
<PERIOD-END> APR-04-1997
<CASH> 4,672
<SECURITIES> 12,238
<RECEIVABLES> 26,196
<ALLOWANCES> 1,499
<INVENTORY> 0
<CURRENT-ASSETS> 46,562
<PP&E> 60,426
<DEPRECIATION> 31,383
<TOTAL-ASSETS> 78,405
<CURRENT-LIABILITIES> 8,470
<BONDS> 0
0
0
<COMMON> 8
<OTHER-SE> 50,415
<TOTAL-LIABILITY-AND-EQUITY> 78,405
<SALES> 0
<TOTAL-REVENUES> 17,877
<CGS> 0
<TOTAL-COSTS> 11,312
<OTHER-EXPENSES> 4,952
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 439
<INCOME-PRETAX> 1,968
<INCOME-TAX> 797
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,171
<EPS-PRIMARY> .17
<EPS-DILUTED> .17
</TABLE>
