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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 QUARTER ENDED JUNE 30, 2014

 

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 000-51579

 

 

 

NCI, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware		20-3211574
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
11730 Plaza America Drive Reston, Virginia		20190-4764
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (703) 707-6900

 

 

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.    x  Yes    ¨  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    x  Yes    ¨  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer		¨		Accelerated filer		¨
Non-accelerated filer		¨  (Do not check if a smaller reporting company)		Smaller Reporting Company		x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    ¨  Yes    x  No

As of July 25, 2014, there were 8,252,332 shares outstanding of the registrant’s Class A common stock. In addition, there are 4,700,000 shares outstanding of the registrant’s Class B common stock, which are convertible on a one-for-one basis into shares of Class A common stock.

 

 

 

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NCI, INC.

 

				PAGE
PART I:		FINANCIAL INFORMATION			1
Item 1.		Condensed Consolidated Financial Statements			1
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations			8
Item 3.		Quantitative and Qualitative Disclosures About Market Risk			13
Item 4.		Controls and Procedures			14
PART II:		OTHER INFORMATION			14
Item 1.		Legal Proceedings			14
Item 1A.		Risk Factors			14
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds			14
Item 3.		Defaults Upon Senior Securities			14
Item 4.		Mine Safety Disclosures			14
Item 5.		Other Information			14
Item 6.		Exhibits			15
		Signatures			17

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PART 1

FINANCIAL INFORMATION

Item 1. Financial Statements

NCI, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(UNAUDITED)

(in thousands, except per share data)

 

		Three months ended June 30,								Six months ended June 30,
		2014				2013				2014				2013
Revenue		$	77,845			$	82,971			$	166,929			$	174,512
Operating expenses:
Cost of revenue			65,929				71,991				143,932				152,468
General and administrative expenses			6,364				6,129				13,763				11,990
Depreciation and amortization			1,450				1,527				2,899				3,145
Total operating expenses			73,743				79,647				160,594				167,603
Operating income			4,102				3,324				6,335				6,909
Interest expense, net			82				248				208				499
Income before income taxes			4,020				3,076				6,127				6,410
Provision for income taxes			1,594				1,265				2,460				2,624
Net income		$	2,426			$	1,811			$	3,667			$	3,786
Earnings per common and common equivalent share:
Basic:
Weighted average shares outstanding			13,623				12,825				13,365				12,818
Net income per share		$	0.18			$	0.14			$	0.27			$	0.30
Diluted:
Weighted average shares outstanding			13,771				12,825				13,762				12,818
Net income per share		$	0.18			$	0.14			$	0.27			$	0.30

The accompanying notes are an integral

part of these consolidated financial statements

 

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NCI, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

(in thousands, except par value)

 

		As of June 30, 2014				As of December 31, 2013
Assets:
Current assets:
Cash and cash equivalents		$	12,624			$	50
Accounts receivable, net			56,250				63,991
Deferred tax assets, net			3,276				3,217
Prepaid expenses and other current assets			3,255				2,941
Total current assets			75,405				70,199
Property and equipment, net			8,612				9,752
Other assets			1,876				2,113
Deferred tax assets, net			39,888				39,990
Intangible assets, net			4,530				5,340
Total assets		$	130,311			$	127,394
Liabilities and stockholders’ equity:
Current liabilities:
Accounts payable		$	14,302			$	17,371
Accrued salaries and benefits			16,034				16,645
Deferred revenue			2,567				2,594
Other accrued expenses			5,947				4,578
Total current liabilities			38,850				41,188
Long-term debt			—				1,000
Other long-term liabilities			3,452				3,399
Total liabilities			42,302				45,587
Stockholders’ equity:
Class A common stock, $0.019 par value—37,500 shares authorized; 9,170 shares issued and 8,252 shares outstanding as of June 30, 2014, and 9,142 shares issued and 8,226 shares outstanding as of December 31, 2013			174				174
Class B common stock, $0.019 par value—12,500 shares authorized; 4,700 shares issued and outstanding as of June 30, 2014 and December 31, 2013			89				89
Additional paid-in capital			73,440				70,905
Treasury stock at cost—917 shares of Class A common stock as of June 30, 2014 and December 31, 2013			(8,331	)			(8,331	)
Retained earnings			22,637				18,970
Total stockholders’ equity			88,009				81,807
Total liabilities and stockholders’ equity		$	130,311				127,394

The accompanying notes are an integral

part of these consolidated financial statements

 

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NCI, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(in thousands)

 

		Six months ended June 30,
		2014				2013
Cash flows from operating activities:
Net income		$	3,667			$	3,786
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			2,899				3,145
Share-based payments			2,413				657
Deferred income taxes			43				(6	)
Changes in operating assets and liabilities:
Accounts receivable, net			7,741				(810	)
Prepaid expenses and other assets			(77	)			4,700
Accounts payable			(3,069	)			(3,816	)
Accrued expenses and other liabilities			78				551
Net cash provided by operating activities			13,695				8,207
Cash flows from investing activities:
Purchases of property and equipment			(243	)			(454	)
Net cash used in investing activities			(243	)			(454	)
Cash flows from financing activities:
Borrowings under credit facility			42,496				60,300
Repayments on credit facility			(43,496	)			(67,800	)
Proceeds from exercise of stock options			191				—
Shares repurchased for tax withholdings on vesting of restricted shares			(69	)			—
Net cash used in financing activities			(878	)			(7,500	)
Net change in cash and cash equivalents			12,574				253
Cash and cash equivalents, beginning of period			50				763
Cash and cash equivalents, end of period		$	12,624			$	1,016
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest		$	180			$	403
Income taxes		$	1,462			$	135
Non-cash investing and finance activities during the period for:
Leasehold improvements acquired under tenant improvement funds			706				—

The accompanying notes are an integral

part of these consolidated financial statements

 

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NCI, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1. Basis of Presentation

The accompanying unaudited condensed consolidated financial statements of NCI, Inc. and its subsidiaries (“NCI” or “the Company”) have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). As a result, certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted. In the opinion of management, the accompanying unaudited interim consolidated financial statements reflect all adjustments necessary to fairly present the Company’s financial position as of June 30, 2014 and its results of operations and cash flows for the three months and six months ended June 30, 2014 and 2013, which consists of normal and recurring adjustments. The information disclosed in the notes to the financial statements for these periods is unaudited. The current period’s results of operations are not necessarily indicative of results that may be achieved for any future period. All numbers in tables are presented in thousands except per share numbers. For further information, refer to the financial statements and footnotes included in NCI’s Annual Report on Form 10-K for the year ended December 31, 2013, as filed with the SEC.

2. Business Overview

NCI provides IT and professional services and solutions by leveraging its eight core service offerings: cloud computing and IT infrastructure optimization; enterprise information management and advanced analytics; cybersecurity and information assurance; IT service management; engineering and logistics support; software and systems development/integration; health IT and medical support; and modeling, simulation, and training. The Company provides these services to U.S. Defense, Intelligence, and Federal Civilian agencies. The majority of the Company’s revenue was derived from contracts with the U.S. Federal Government, directly as a prime contractor or as a subcontractor. NCI primarily conducts business throughout the United States. The Company reports operating results and financial data as one reportable segment.

For the three months ended June 30, 2014 and 2013, the Company generated approximately 75% of revenue from the Department of Defense, including agencies within the intelligence community, and approximately 25% of revenue from federal civilian agencies. For the six months ended June 30, 2014 and 2013, the Company generated approximately 77% and 75% of revenue, respectively, from the Department of Defense, including agencies within the intelligence community, and approximately 23% and 25% of revenue, respectively, from federal civilian agencies. The Company’s PEO Soldier contract is the Company’s largest revenue-generating contract and accounted for approximately 13% and 14% of revenue for the three months ended June 30, 2014 and 2013, respectively. PEO Soldier accounted for approximately 12% and 14% of revenue for the six months ended June 30, 2014 and 2013, respectively. The Company’s PEO Soldier contract is a cost-plus contract consisting of a base period and two option periods for a total term of three years commencing in September 2012. NCI provides IT enterprise support services to the U.S. Army Network Enterprise Engineering Command, which accounted for approximately 11% and 8% of revenue for the three months ended June 30, 2014 and 2013, respectively, and approximately 10% and 8% of revenue for the six months ended June 30, 2014 and 2013, respectively. This IT enterprise support services cost-plus contract consists of a base period and two option periods for a total term of three years extending through September 2014.

3. Recently Issued Accounting Pronouncements

In May of 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (ASU 2014-09), which will replace most of the current revenue recognition guidance under U.S. GAAP when it becomes effective for annual periods beginning after December 15, 2016, and interim periods therein. While this new accounting standard will not affect the Company until the Company’s 2017 fiscal year, it does require either a full retrospective approach reflecting the application of the standard in each prior reporting period, or a retrospective approach with the cumulative effect of initially adopting the ASU 2017-09 recognized at the date of adoption (which includes additional footnote disclosures).

The main principle of ASU 2014-09 is that revenue should be recognized when contracted goods or services are transferred to customers in an amount that reflects the consideration that the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 defines a five step process to achieve this new principle which will require entities to apply significantly more management judgment and may require the use of more estimates than are required under existing U.S. GAAP. NCI is currently evaluating the impact of the pending adoption of ASU 2014-09 on the Company’s consolidated financial statements and have not yet determined the method by which NCI will adopt the standard in 2017.

4. Earnings Per Share

Basic earnings per share exclude dilution and are computed by dividing net income by the weighted average number of common shares outstanding for the period, including contingently issuable shares that could share in our income if options containing a market condition that was met during the quarter were exercised. Diluted earnings per share reflect potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. Diluted earnings per share include the incremental effect of stock options calculated using the treasury stock method, and contingently issuable shares that could share in our income if options containing a market condition that was met during the six months were exercised. Shares that are anti-dilutive are not included in the computation of diluted earnings per share. For the three months ended June 30, 2014 and 2013, approximately 4,000 and 1,100,000 shares, respectively, were not included in the computation of diluted earnings per share, because to do so would have been anti-dilutive. For the six months ended June 30, 2014 and 2013, approximately 12,000 and 1,000,000 shares, respectively, were not included in the computation of diluted earnings per share, because to do so would have been anti-dilutive. The following details the computation of basic and diluted earnings per common share (Class A and Class B) for the three months ended June 30, 2014 and 2013.

 

		Three months ended June 30,								Six months ended June 30,
		2014				2013				2014				2013
		(in thousands, except per share data)
Net Income		$	2,426			$	1,811			$	3,667			$	3,786
Weighted average number of basic shares outstanding during the period			13,623				12,825				13,365				12,818
Effect of dilutive potential common shares			148				—				397				—
Weighted average number of diluted shares outstanding during the period			13,771				12,825				13,762				12,818
Basic earnings per share		$	0.18			$	0.14			$	0.27			$	0.30
Diluted earnings per share		$	0.18			$	0.14			$	0.27			$	0.30

 

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5. Accounts Receivable

Accounts receivable consist of billed and unbilled amounts at the end of each period:

 

		As of
		June 30, 2014				December 31, 2013
Billed receivables		$	27,784			$	31,398
Unbilled receivables:
Amounts billable at end of period			23,869				19,215
Other			5,385				14,166
Total unbilled receivables			29,254				33,381
Total accounts receivable			57,038				64,779
Less: Allowance for doubtful accounts			788				788
Total accounts receivable, net		$	56,250			$	63,991

Other unbilled receivables primarily consist of amounts that will be billed upon milestone completions and other accrued amounts that cannot be billed as of the end of the period. Substantially all unbilled receivables are expected to be billed and collected within the next twelve months.

6. Property and Equipment

The following table details property and equipment at the end of each period:

 

		As of
		June 30, 2014				December 31, 2013
Property and equipment
Furniture and equipment		$	23,282			$	23,054
Leasehold improvements			9,210				8,488
Real property			549				549
			33,041				32,091
Less: Accumulated depreciation and amortization			24,429				22,339
Property and equipment, net		$	8,612			$	9,752

Depreciation expense for the three months ended June 30, 2014 and 2013 was $1.0 million and $1.1 million, respectively. Depreciation expense for the six months ended June 30, 2014 and 2013 was $2.1 million and $2.2 million, respectively.

7. Intangible Assets

The following table details intangible assets at the end of each period:

 

		As of
		June 30, 2014				December 31, 2013
Contract and customer relationships		$	20,987			$	20,987
Less: Accumulated amortization			16,457				15,647
Intangible assets, net		$	4,530			$	5,340

 

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Amortization expense of intangible assets for the three months ended June 30, 2014 and 2013 was $0.4 million. Amortization expense of intangible assets for the six months ended June 30, 2014 and 2013 was $0.8 million and $0.9 million, respectively.

8. Share-Based Payments

During the three and six months ended June 30, 2014, the Company granted 30,000 stock options. During the three and six months ended June 30, 2014, 4,000 stock options and 34,000 stock options were exercised, respectively. As of June 30, 2014, there were approximately 1,770,000 stock options outstanding.

During the three months ended June 30, 2014, 20,000 restricted shares vested, with 5,000 shares cancelled to cover individual tax liabilities. During the six months ended June 30, 2014, 26,250 restricted shares vested, with 7,269 shares cancelled to cover individual tax liabilities. As of June 30, 2014, there were approximately 57,500 shares of restricted stock outstanding.

During the six months ended June 30, 2014, approximately 737,000 of the options granted in June of 2013 vested on an accelerated vesting schedule, as the stock price reached two discrete acceleration milestones of a continuous 30-day average stock price of $8.00 and $10.00 per share, respectively. This added approximately $1.1 million and $0.4 million in additional stock compensation costs to general and administrative expenses and cost of revenue, respectively. During the quarter ended June 30, 2014, there was no further accelerated vesting of outstanding options.

The following table summarizes stock compensation expense allocated to cost of revenue and general and administrative costs for the three and six months ended June 30, 2014 and 2013:

 

		Three months ended June 30,								Six months ended June 30,
		2014				2013				2014				2013
Cost of revenue		$	79			$	61			$	555			$	119
General and administrative			390				299				1,858				539
		$	469			$	360			$	2,413			$	658

As of June 30, 2014, there was approximately $1.8 million of total unrecognized compensation cost related to unvested stock compensation arrangements. This cost is expected to be fully amortized over the next three years, with approximately $0.7 million, $1.0 million, and $0.1 million amortized during the remainder of 2014, and the full year of 2015 and 2016, respectively. The cost of stock compensation is included in the Company’s Consolidated Statements of Income and expensed over the service period of the options.

9. Debt

The Company’s senior credit facility, as amended in December 2010, December 2012, and subsequently amended in December 2013, consists of a revolving line of credit with a borrowing capacity of up to an $80.0 million principal amount and a $45.0 million accordion feature allowing us to increase our borrowing capacity to up to a $125.0 million principal amount, subject to obtaining commitments for the incremental capacity from existing or new lenders. The outstanding borrowings are collateralized by a security interest in substantially all the Company’s assets. The lenders also require a direct assignment of all contracts at the lenders’ discretion. The outstanding balance under the credit facility accrues interest based on one-month LIBOR plus an applicable margin, ranging from 210 to 310 basis points, based on the ratio of our outstanding senior funded debt to Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA) as defined in the credit facility agreement. The credit facility expires on January 31, 2017.

The credit facility contains various restrictive covenants that, among other things, restrict the Company’s ability to: incur or guarantee additional debt; make certain distributions, investments and other restricted payments, including limits on cash dividends on the Company’s outstanding common stock or equivalent equity interests; enter into transactions with certain affiliates; create or permit certain liens; and consolidate, merge, or sell assets. In addition, the credit facility contains certain financial covenants that require the Company to: maintain a minimum tangible net worth; maintain a minimum fixed charge coverage ratio and a minimum funded debt to earnings ratio; and limit capital expenditures below certain thresholds. As of June 30, 2014 and December 31, 2013, the Company was in compliance with all of its loan covenants.

The credit facility allows the Company to use borrowings thereunder of up to $17.5 million to repurchase shares of Class A common stock. No stock repurchases took place in the three or six months ended June 30, 2014. At June 30, 2014, $16.7 million was remaining under the Board of Directors’ authorization for shares repurchases.

During the second quarter of 2014, NCI had a weighted average outstanding loan balance of $1.1 million which accrued interest at a weighted average borrowing rate of 2.3%. During the second quarter of 2013, NCI had a weighted average outstanding loan balance

 

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of $23.1 million which accrued interest at a weighted average borrowing rate of 2.7%. During the six months ended June 30, 2014, NCI had a weighted average outstanding loan balance of $2.5 million which accrued interest at a weighted average borrowing rate of 2.3%. During the six months ended June 30, 2013, NCI had a weighted average outstanding loan balance of $22.1 million which accrued interest at a weighted average borrowing rate of 2.7%.

As of June 30, 2014, the outstanding balance under the credit facility was zero and interest accrued at a rate of one-month LIBOR plus 210 basis points, or 2.3%. As of December 31, 2013, the outstanding balance under the credit facility was $1.0 million and interest accrued at a rate of one-month LIBOR plus 210 basis points, or 2.3%.

10. Restructuring Charge

During December 2011, management committed to, implemented, and completed a restructuring plan. The restructuring was done to reduce costs through downsizing our physical locations.

The activity and balance of the restructuring liability accounts for the quarter ended June 31, 2014 are as follows:

 

		Lease and Facilities Exit Costs
Balance as of January 1, 2014		$	928
Cash payments			(133	)
Balance as of March 31, 2014			795
Cash payments			(184	)
Balance as of June 30, 2014		$	611
Amounts contained in balance sheet as of June 30, 2014
Other accrued expenses			356
Other long-term liabilities			255
Total		$	611

The accrued amounts related to the lease and facilities exit costs will be reduced over the respective lease terms, the longest of which extends through 2017.

11. Related Party Transactions

The Company purchased services under a subcontract from Renegade Technology Systems, Inc. (formerly Net Commerce Corporation), which is a Government contractor wholly-owned by Rajiv Narang, the son of Charles K. Narang, the Chairman and Chief Executive Officer of the Company. For the three months ended June 30, 2014 and 2013, the expense incurred under this agreement was approximately $219,000 and $249,000 respectively. For the six months ended June 30, 2014 and 2013, the expense incurred under this agreement was approximately $573,000 and $490,000 respectively. As of June 30, 2014 and December 31, 2013, approximate outstanding amounts due to Renegade Technology Systems, Inc. were zero.

 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This Quarterly Report on Form 10-Q, including the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding our business, financial condition, results of operations, and prospects. There are statements made herein, which may not address historical facts and, therefore, could be interpreted to be forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995. Such statements are subject to factors that could cause actual results to differ materially from anticipated results. The factors that could cause actual results to differ materially from those anticipated include, but are not limited to, the following:

 

•

Our dependence on our contracts with U.S. Federal Government agencies, particularly within the U.S. Department of Defense, for the majority our revenue; a change in funding of our contracts due to bid protests; changes in U.S. Federal Government spending priorities; changes in contract type, particularly changes from cost-plus fee or time-and-material type contracts to firm fixed-price type contracts

 

•

A reduction in the overall U.S. Defense budget, volatility in spending authorizations for Defense and Intelligence-related programs by the U.S. Federal Government or a shift in spending to programs in areas where we do not currently provide services

 

•

Delays in the U.S. Federal Government appropriations process, or budgetary cuts resulting from Congressional committee recommendations or automatic sequestration under the Budget Control Act of 2011; U.S. Federal Governmental shutdowns (such as the shutdown that occurred during the U.S. Federal Government’s 1996 and 2013 fiscal years); and other potential delays in the U.S. Federal Government appropriations process

 

•

Changes in U.S. Federal Government programs or requirements, including the increased use of small business providers

 

•

Failure to achieve contract awards in connection with recompetes for present business and/or competition for new business

 

•

U.S. Federal Government agencies more frequently awarding contracts on a technically acceptable/lowest cost basis in order to reduce expenditures

 

•

Adverse results of U.S. Federal Government audits of our government contracts

 

•

Competitive factors, such as pricing pressures and competition to hire and retain employees (particularly those with security clearances)

 

•

Failure to identify and successfully integrate future acquired companies or businesses into our operations or to realize any accretive or synergistic effects from such acquisitions, or effectively integrate acquisitions appropriate to the achievement of our strategic plans

 

•

Economic conditions in the United States, including conditions that result from terrorist activities or war

 

•

Material changes in policies, laws, or regulations applicable to our businesses, particularly legislation affecting (i) U.S. Federal Government contracts for services, (ii) outsourcing of activities that have been performed by the U.S. Federal Government, (iii) U.S. Federal Government contracts containing organizational conflict of interest clauses, (iv) delays related to agency specific funding freezes, and (v) competition for task orders under Government Wide Acquisition Contracts, agency-specific Indefinite Delivery/Indefinite Quantity contracts and/or schedule contracts with the General Services Administration

 

•

U.S. Federal Government’s “insourcing” of previously contracted support services and the realignment of funds to non-defense related programs

 

•

Our ability to achieve the objectives of near-term or long-range business plans, particularly revenue growth, and the ability to realize future deferred tax assets benefits

 

•

Risk of contract non-performance or termination

Some of these important factors are outlined under Item 1A. Risk Factors and elsewhere in our Annual Report on Form 10-K for the year ended December 31, 2013 filed with the SEC, and from time to time in other filings with the SEC, such as our Forms 8-K and 10-Q. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee our future results, level of activity, or performance. We undertake no obligation to update publicly or revise any forward-looking statements. You should not place undue reliance on any forward-looking statements.

In this document, unless the context indicates otherwise, the terms “Company,” “NCI,” “we,” “us,” and “our” refer to NCI, Inc., a Delaware corporation, and, where appropriate, its subsidiaries.

 

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OVERVIEW

We are a provider of information technology (IT) and professional engineering services and solutions to U.S. Federal Government Agencies. Our technology and industry expertise enables us to provide a wide spectrum of services and solutions that assist our customers in achieving their program goals. We deliver these complex services and solutions by leveraging our skills across eight core competencies:

 

•

Cloud Computing and IT infrastructure optimization

 

•

Enterprise information management and advanced analytics

 

•

Cybersecurity and information assurance

 

•

IT service management

 

•

Engineering and logistics support

 

•

Software and systems development/integration

 

•

Health IT and medical support

 

•

Modeling, simulation, and training

Our team of highly skilled professionals is committed to service excellence and delivers innovative, cost-effective enterprise services and solutions on time and within budget. We are focused on reshaping the way services and solutions are delivered to our customers in order to proactively understand and meet their mission needs and enable them to rapidly adapt to dynamic environments. Headquartered in Reston, Virginia, NCI currently operates in more than 100 locations around the globe. We report operating results and financial data as one reportable segment.

Key Financial Metrics

Prime Contractor Revenue

The following table shows our revenue derived from contracts on which we serve as a prime contractor.

 

		Three months ended June 30,								Six months ended June 30,
		2014				2013				2014				2013
Revenue derived from prime contracts			91	%			89	%			92	%			90	%

Customer Group Revenue

The following table shows our revenue from the client groups listed as a percentage of total revenue for the period shown.

 

		Three months ended June 30,								Six months ended June 30,
		2014				2013				2014				2013
Department of Defense and intelligence agencies			75	%			75	%			77	%			75	%
U.S. Federal civilian agencies			25	%			25	%			23	%			25	%

Contract Type Revenue

Our services and solutions are provided under three types of contracts: time-and-materials; cost-plus fee; and firm fixed-price. Our contract mix varies from year to year due to numerous factors including our business strategies and U.S. Federal Government procurement objectives.

The following table shows our revenue from each of these types of contracts as a percentage of our total revenue for the periods shown.

 

		Three months ended June 30,								Six months ended June 30,
		2014				2013				2014				2013
Time-and-materials			17	%			23	%			16	%			22	%
Cost-plus fee			51	%			48	%			52	%			50	%
Firm fixed-price			32	%			29	%			32	%			28	%

The amount of risk and potential reward varies under each type of contract. Under time-and-materials contracts, we are paid a fixed hourly rate by labor category. To the extent that our actual labor costs vary significantly from the negotiated hourly rates, we may

 

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generate more or less than the targeted amount of profit. We are typically reimbursed for other contract direct costs and expenses at our cost, and typically receive no fee on those costs. For cost-plus fee contracts, there is limited financial risk, because we are reimbursed all our allowable costs, therefore the profit margins tend to be lower on cost-plus fee contracts. Under firm fixed-price contracts, we perform specific tasks or provide specified goods for a predetermined price. Compared to time-and-materials and cost-plus fee contracts, firm fixed-price service contracts generally offer higher profit margin opportunities but involve greater financial risk because we would bear the impact of potential cost overruns in return for the full benefit of any cost savings.

Contract Backlog

 

As of		Funded Backlog				Total Backlog
		(in millions)
June 30, 2014		$	125			$	362
December 31, 2013			195				488

We define backlog as our estimate of the remaining future revenue from existing signed contracts over the remaining base contract performance period and from the option periods of those contracts that we believe have a more likely than not probability of being exercised. Our backlog does not include any estimate of future potential delivery orders that might be awarded under our GWAC, agency-specific IDIQ, or other multiple-award contract vehicles. We define funded backlog as the portion of backlog for which funding currently is appropriated and obligated to us under a contract or other authorization for payment signed by an authorized purchasing agency, less the amount of revenue we have previously recognized. Our funded backlog does not represent the full potential value of our contracts, as Congress often appropriates funds for a particular program or agency on a quarterly or yearly basis, even though the contract may provide for the provision of services over a number of years. We define unfunded backlog , not included above, as the total backlog less the funded backlog. Unfunded backlog includes values for contract options that have been priced but not yet funded. Additional information on how we determine backlog is included in our Annual Report on Form 10-K for the year ended December 31, 2013, filed with the SEC.

Results of Operations

Three Months Ended June 30, 2014 Compared to Three Months Ended June 30, 2013

The following table sets forth certain items from our consolidated statements of income and expresses each item in dollars and as a percentage of revenue for the periods indicated:

 

		Three months ended June 30,
		2014				2013				2014				2013
		(in thousands)								(as a percentage of revenue)
Revenue		$	77,845			$	82,971				100.0	%			100.0	%
Operating expenses:
Cost of revenue			65,929				71,991				84.7				86.8
General and administrative expenses			6,364				6,129				8.2				7.4
Depreciation and amortization			1,450				1,527				1.8				1.8
Total operating expenses			73,743				79,647				94.7				96.0
Operating income			4,102				3,324				5.3				4.0
Interest expense, net			82				248				0.1				0.3
Income before income taxes			4,020				3,076				5.2				3.7
Provision for income taxes			1,594				1,265				2.1				1.5
Net income		$	2,426			$	1,811				3.1	%			2.2	%

Revenue

For the three months ended June 30, 2014, revenue decreased by 6.2%, or $5.1 million, over the same period a year ago. The decrease was primarily due to approximately $3.6 million as a result of the expiration of task orders and contracts, and, to a lesser extent, reductions in scope of work, and $1.5 million of lower revenue attributable to services provided on our PEO Soldier contract.

 

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Cost of revenue

Cost of revenue decreased 8.4%, or $6.1 million, for the three months ended June 30, 2014, as compared to the same period a year ago. This decrease was primarily the result of reduced subcontractor and non-labor costs. Cost of revenue represented 84.7% of revenue for the quarter ended June 30, 2014, as compared to 86.8% for the quarter ended June 30, 2013. This decrease was primarily the result of improved contract margins.

General and administrative expenses

General and administrative expense increased 3.8%, or $0.2 million, for the three months ended June 30, 2014, as compared to the same period a year ago. The increase was primarily due to higher stock compensation costs from the regular vesting of equity awards.

Depreciation and amortization

Depreciation and amortization expense was approximately $1.4 million and $1.5 million for the quarters ended June 30, 2014 and 2013, respectively.

Interest expense, net

Net interest expense was $0.1 million and $0.2 million for the quarters ended June 30, 2014 and 2013, respectively. This decrease was primarily due to a lower average loan balance in the quarter ended June 30, 2014. During the second quarter of 2014, we had a weighted average outstanding loan balance of $1.1 million which accrued interest at a weighted average borrowing rate of 2.3%. During the second quarter of 2013, we had a weighted average outstanding loan balance of $23.1 million which accrued interest at a weighted average borrowing rate of 2.7%.

Income taxes

Income tax expense increased by $0.3 million in the three months ended June 30, 2014, as compared to the three months ended June 30, 2013. This increase was due to the increase in operating income, offset by a decrease in our effective tax rate. The effective income tax rate for the quarter ended June 30, 2014 was approximately 39.7%, as compared to an effective income tax rate of 41.1% for the quarter ended June 30, 2013. The decrease in effective tax rate resulted from changes in the blended state tax rate.

Six Months Ended June 30, 2014 Compared to Six Months Ended June 30, 2013

The following table sets forth certain items from our consolidated statements of income and expresses each item in dollars and as a percentage of revenue for the periods indicated:

 

		Six months ended June 30,
		2014				2013				2014				2013
		(in thousands)								(as a percentage of revenue)
Revenue		$	166,929			$	174,512				100.0	%			100.0	%
Operating expenses:
Cost of revenue			143,932				152,468				87.3				87.3
General and administrative expenses			13,763				11,990				6.9				6.9
Depreciation and amortization			2,899				3,145				1.8				1.8
Total operating expenses			160,594				167,603				96.0				96.0
Operating income			6,335				6,909				4.0				4.0
Interest expense, net			208				499				0.3				0.3
Income before income taxes			6,127				6,410				3.7				3.7
Provision for income taxes			2,460				2,624				1.5				1.5
Net income		$	3,667			$	3,786				2.2	%			2.2	%

 

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Revenue

For the six months ended June 30, 2014, total revenue decreased 4.3%, or $7.6 million from $174.5 million to $166.9 million, over the same period a year ago. The decrease was primarily due to approximately $3.8 million of lower revenue attributable to services provided on our PEO Soldier contract, and $3.8 million as a result of reductions of scope of work, and the expiration of task orders and contracts.

Cost of revenue

Cost of revenue decreased 5.6%, or $8.5 million from $152.5 million to $143.9 million, for the six months ended June 30, 2014, as compared to the same period a year ago. This decrease was primarily the result of reduced direct labor and subcontractor costs. Cost of revenue represented 86.2% of revenue for the quarter ended June 30, 2014, as compared to 87.4% for the quarter ended June 30, 2013. This decrease was primarily the result of the factors affecting revenue and the associated indirect costs, and improved margins on certain contracts.

General and administrative expenses

General and administrative expenses increased 14.8%, or $1.8 million, for the six months ended June 30, 2014, as compared to the same period a year ago. The increase was primarily due to $1.1 million in accelerated stock compensation expense, and higher stock compensation costs from the regular vesting of equity awards, offset by reduced headcount.

Depreciation and amortization

Depreciation and amortization expense was approximately $2.9 and $3.1 million for the six months ended June 30, 2014 and 2013, respectively. The decrease was primarily due to the reduction in the amortization expense of intangible assets.

Interest expense, net

Net interest expense was approximately $0.2 million for the six months ended June 30, 2014 and approximately $0.5 million for the six months ended June 30, 2013. The decrease was primarily attributed to a lower weighted average loan balance and a slightly lower weighted average borrowing rate.

Income taxes

For the six months ended June 30, 2014, income taxes decreased to $2.5 million from $2.6 million on slightly decreased pretax income and a slightly lower effective tax rate. The effective income tax rate for the six months ended June 30, 2014 was approximately 40.2% as compared to an effective income tax rate of 40.9% for the six months ended June 30, 2013. The lower effective income tax rate for the six months ended June 30, 2014 was the result of an increase in the blended state rate from our current state revenue allocation.

Liquidity and Capital Resources

Our primary liquidity needs are for financing working capital, capital expenditures, stock repurchases, and making selective strategic acquisitions. Historically, we have relied primarily on our cash flow from operations and borrowings under our credit facility to provide the capital for our liquidity needs. As part of our growth strategy, we may pursue acquisitions that could require us to incur additional debt or issue new equity. We expect the combination of our current cash, cash flow from operations, and the available borrowing capacity under our credit facility to continue to meet our normal working capital, capital expenditures and other cash requirements.

During the second quarter of 2014, the balance of accounts receivable decreased by $7.7 million to $56.3 million at the end of the quarter. Days sales outstanding of accounts receivable (DSO) decreased 8 days to 66 days at June 30, 2014 as compared to 74 days at December 31, 2013. As of June 30, 2014, no amounts were due under the credit facility, as compared to $1.0 million outstanding as of December 31, 2013, reflecting $1.0 million of net repayments during the first six months of 2014. Net cash provided by operating activities was $13.7 million at June 30, 2014.

 

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Our Board of Directors authorized management to repurchase up to $25.0 million of our Class A common stock pursuant to a stock repurchase program. If shares are repurchased, the shares will be repurchased pursuant to open market purchases, privately negotiated transactions, or block transactions. We have no obligation to repurchase shares under the authorization, and the timing, actual number and value of the shares which are repurchased (and the manner of any such repurchase) will be at the discretion of management and will depend on a number of factors, including the price of our common stock, our Company’s cash needs, borrowing capacity under our credit facility, interest rates, and our financial performance and position. We may suspend or discontinue repurchases at any time.

During 2013 and the three and six months ended June 30, 2014, we did not purchase any shares. At June 30, 2014, we had $16.7 million remaining under the Board of Directors’ authorization for share repurchases.

Credit Facility: Our amended and restated senior credit facility consists of a revolving line of credit with a borrowing capacity of up to an $80.0 million principal amount, and a $45.0 million accordion feature allowing us to increase our borrowing capacity to up to a $125.0 million principal amount, subject to obtaining commitments for the incremental capacity from existing or new lenders. The outstanding borrowings are collateralized by a security interest in substantially all the Company’s assets. The lenders also require a direct assignment of all contracts at the lenders’ discretion. The outstanding balance under the credit facility accrues interest based on one-month LIBOR plus an applicable margin, ranging from 210 to 310 basis points, based on the ratio of our outstanding senior funded debt to Earnings before Interest, Taxes, Depreciation, and Amortization (EBITDA) as defined in the credit facility agreement.

The credit facility allows us to use borrowings thereunder of up to $17.5 million to repurchase shares of our common stock. Funds borrowed under the credit facility may be used to finance possible future acquisitions, for working capital requirements, for stock repurchases, for cash dividends or for general corporate uses.

The loan interest accrual rate is set monthly at one-month LIBOR plus a set amount per the credit facility, amended in December 2013.

The credit facility contains various restrictive covenants that, among other things, restrict our ability to incur or guarantee additional debt; make certain distributions, investments and other restricted payments such as dividends; enter into transactions with certain affiliates; create or permit certain liens; and consolidate, merge, or sell assets. In addition, the credit facility contains certain financial covenants that require us to maintain a minimum tangible net worth; maintain a minimum fixed charge coverage ratio and a minimum funded debt to earnings ratio; and limit capital expenditures below certain thresholds. There are no restrictions on our retained earnings in the credit facility.

As of June 30, 2014, we were in compliance with all our loan covenants.

Off-Balance Sheet Arrangements

We do not have any material off-balance sheet arrangements.

Critical Accounting Policies

There have been no significant changes to our Critical Accounting Policies during the first quarter of 2014. Refer to our Critical Accounting Policies section in our Annual Report on Form 10-K for the year ended December 31, 2013 filed with the SEC.

In May of 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (ASU 2014-09), which will replace most of the current revenue recognition guidance under U.S. GAAP when it becomes effective for annual periods beginning after December 15, 2016, and interim periods therein. While this new accounting standard will not affect the Company until the Company’s 2017 fiscal year, it does require either a full retrospective approach reflecting the application of the standard in each prior reporting period, or a retrospective approach with the cumulative effect of initially adopting the ASU 2017-09 recognized at the date of adoption (which includes additional footnote disclosures).

The main principle of ASU 2014-09 is that revenue should be recognized when contracted goods or services are transferred to customers in an amount that reflects the consideration that the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 defines a five step process to achieve this new principle which will require entities to apply significantly more management judgment and may require the use of more estimates than are required under existing U.S. GAAP. We are currently evaluating the impact of our pending adoption of ASU 2014-09 on our consolidated financial statements and have not yet determined the method by which we will adopt the standard in 2017.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Our exposure to market risk relates to changes in interest rates for borrowings under our credit facility. For the quarter ended June 30, 2014, a change of one percentage point in interest rates would have changed our interest expense or cash flows by less than $0.1 million. This estimate is based on our average balances for the period.

Additionally, we are subject to credit risks associated with our cash, cash equivalents, and accounts receivable. We believe that the concentration of credit risk with respect to cash equivalents is limited due to the high credit quality of these investments. Our investment policy requires that we invest excess cash in high-quality investments, which preserve principal, provide liquidity, and minimize investment risk. We also believe that our credit risk associated with accounts receivable is limited as they are primarily with the U.S. Federal Government or prime contractors working for the U.S. Federal Government.

 

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Item 4. Controls and Procedures

Evaluation of the Effectiveness of Disclosure Controls and Procedures

As of June 30, 2014, under the supervision and with the participation of our management, including our chief executive officer and our chief financial officer, we have evaluated the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934, as amended. Based on this evaluation, our chief executive officer and our chief financial officer have concluded that our disclosure controls and procedures were effective, as of June 30, 2014, such that the information that is required to be disclosed in our reports filed with the SEC (i) is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and (ii) is accumulated and communicated to management, including our chief executive officer and our chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

The Company made no change to its internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) identified in connection with the evaluation required by Rule 13a-15(d) under the Exchange Act during the three months ended June 30, 2014 that has materially affected, or is reasonably likely to materially affect, its internal control over financial reporting.

PART II

OTHER INFORMATION

Item 1. Legal Proceedings

The Company is party to various legal actions, claims, government inquiries, and audits resulting from the normal course of business. The Company believes that the probability is remote that any resulting liability will have a material effect on the Company’s financial position, results of operations, or cash flows.

Item 1A. Risk Factors

There have been no significant changes from those discussed in Item 1A. “Risk Factors” included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013 filed with the SEC.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3. Defaults Upon Senior Securities

None

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

None

 

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Item 6. Exhibits

 

Number		Description
2.1		Stock Purchase Agreement among NCI Information Systems, Inc. (“NCIIS”), a wholly owned subsidiary of NCI, Inc., and stockholders of AdvanceMed Corporation dated as of February 24, 2011 (incorporated herein by reference from Exhibit 2.1 to registrant’s Current Report on Form 8-K, as filed with the Commission on April 4, 2011)
3.1		Amended and Restated Certificate of Incorporation of the Registrant (incorporated herein by reference from Exhibit 3.1 to registrant’s Registration Statement on Form S-1 (File No. 333-127006), as filed with the Commission on October 4, 2005, as amended).
3.2		Bylaws of the Registrant (incorporated herein by reference from Exhibit 3.2 to registrant’s Registration Statement on Form S-1 (File No. 333-127006), as filed with the Commission on July 29, 2005).
4.1		Specimen Class A Common Stock Certificate (incorporated herein by reference from Exhibit 4.1 to registrant’s Registration Statement on Form S-1 (File No. 333-127006), as filed with the Commission on October 20, 2005, as amended).
4.2*		NCI, Inc. Amended and Restated 2005 Performance Incentive Plan (incorporated herein by reference from Appendix A to registrant’s Definitive Proxy Statement on Schedule 14A, as filed with the Commission on April 30, 2009).
4.3*		Form of Amended and Restated 2005 Performance Incentive Plan Notice of Stock Option Grant and Stock Option Agreement (incorporated herein by reference from Exhibit 4.2 to registrant’s Current Report on Form 8-K, as filed with the Commission on June 12, 2009).
4.4*		NCI, Inc. Amended and Restated 2005 Performance Incentive Plan (incorporated herein by reference from Appendix A to registrant’s Proxy Statement on Form DEF 14A, as filed with the Commission on April 30, 2009).
4.5*		Form of Amended and Restated 2005 Performance Incentive Plan Notice of Stock Option Grant and Stock Option Agreement (incorporated herein by reference from Exhibit 4.2 to registrant’s Current Report on Form 8-K, as filed with the Commission on June 12, 2009).
10.1		Amended and Restated Loan and Security Agreement, dated as of December 13, 2010, by and among NCI, Inc., NCI Information Systems Incorporated, Operational Technologies Services, Inc., as Borrowers, the several banks and financial institutions from time to time parties thereto, as Lenders, SunTrust Bank as the Administrative Agent to the Lenders and SunTrust Robinson Humphrey, Inc., as Lead Arranger and Book Manager (incorporated by reference from Exhibit 10.1 to registrant’s Current Report on Form 8-K dated December 13, 2010, and filed with the Commission on December 15, 2010).
10.2*		Executive Change in Control and Severance Agreement, dated June 9, 2012, by and among, NCI, Inc. and Brian J. Clark. (incorporated herein by reference from Exhibit 10.2 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on June 12, 2012).
10.3*		Executive Change in Control and Severance Agreement, dated June 9, 2012, by and among, NCI, Inc. and Marco de Vito (incorporated herein by reference from Exhibit 10.3 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on June 12, 2012).
10.4*		Executive Change in Control and Severance Agreement, dated June 9, 2012, by and among, NCI, Inc. and Michele R. Cappello (incorporated herein by reference from Exhibit 10.4 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on June 12, 2012).
10.5*		Executive Change in Control and Severance Agreement, dated June 9, 2012, by and among, NCI, Inc. and Lucas J. Narel (incorporated herein by reference from Exhibit 10.5 to registrant’s Annual Report on Form 10-K (File No. 000-51579), as filed with the Commission on June 12, 2012).
10.6		Waiver and Amendment to Amended and Restated Loan and Security Agreement, dated as of December 31, 2012, by and among NCI, Inc., and NCI Information Systems Incorporated, as Borrowers, the several banks and financial institutions from time to time parties thereto, as Lenders, SunTrust Bank as the Administrative Agent to the Lenders and SunTrust Robinson Humphrey, Inc., as Lead Arranger and Book Manager (incorporated by reference from Exhibit 10.1 to registrant’s Current Report on Form 8-K dated January 7, 2013, and filed with the Commission on January 8, 2013).

 

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Number		Description
10.7		Second Amendment to Amended and Restated Loan and Security Agreement, dated as of December 19, 2013, by and among NCI, Inc., and NCI Information Systems Incorporated, as Borrowers, the several banks and financial institutions from time to time parties thereto, as Lenders, SunTrust Bank as the Administrative Agent to the Lenders and SunTrust Robinson Humphrey, Inc., as Lead Arranger and Book Manager (incorporated by reference from Exhibit 10.1 to registrant’s Current Report on Form 8-K dated December 23, 2013, and filed with the Commission on December 23, 2013).
31.1‡		Certification of the Chief Executive Officer pursuant to rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.
31.2‡		Certification of the Chief Financial Officer pursuant to rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.
32.1‡		Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS		XBRL Instance Document
101.SCH		XBRL Extension Schema
101.CAL		XBRL Extension Calculation Linkbase
101.DEF		XBRL Extension Definition Linkbase
101.LAB		XBRL Extension Label Linkbase
101.PRE		XBRL Extension Presentation Linkbase

 

‡	Included with this filing.

*	Management Contract or Compensatory Plan or Arrangement.

 

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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 hereunto duly authorized.

 

						NCI, Inc.
						Registrant
Date: July 31, 2014				By:		/s/ LUCAS J. NAREL
						Lucas J. Narel
						Executive Vice President, Chief Financial Officer and Treasurer
						(Principal Financial Officer)
						(Principal Accounting Officer)

 

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