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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended June 30, 2006
Commission File Number: 0-16284
TECHTEAM GLOBAL, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 38-2774613
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation)
27335 WEST 11 MILE ROAD, SOUTHFIELD, MI 48034
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (248) 357-2866
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 [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [X] Non- accelerated filer [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
The number of shares of the registrant's common stock outstanding at August 1,
2006 was 10,288,352.
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1
TECHTEAM GLOBAL, INC.
FORM 10-Q
TABLE OF CONTENTS
PAGE
NUMBER
------
PART I - FINANCIAL INFORMATION
Item 1 Financial Statements 3
Condensed Consolidated Statements of Operations --
Three and Six Months Ended June 30, 2006 and 2005 3
Condensed Consolidated Balance Sheets --
As of June 30, 2006 and December 31, 2005 4
Condensed Consolidated Statements of Cash Flows --
Six Months Ended June 30, 2006 and 2005 6
Notes to Condensed Consolidated Financial Statements 7
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 18
Item 3 Quantitative and Qualitative Disclosures About Market Risk 31
Item 4 Controls and Procedures 31
PART II - OTHER INFORMATION
Item 1 Legal Proceedings 32
Item 1A Risk Factors 32
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds 33
Item 4 Submission of Matters to a Vote of Security Holders 33
Item 6 Exhibits 34
SIGNATURES 35
2
PART 1 -- FINANCIAL INFORMATION
ITEM 1 -- FINANCIAL STATEMENTS
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(In thousands, except per share data)
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
------- ------- ------- -------
REVENUE
IT outsourcing services .......................... $20,412 $18,640 $39,509 $37,739
Government technology services ................... 11,702 14,218 23,486 29,180
IT consulting and systems integration ............ 6,270 7,080 13,473 12,931
Technical staffing ............................... 2,185 2,116 4,380 4,132
Learning services ................................ 300 231 618 341
------- ------- ------- -------
TOTAL REVENUE ....................................... 40,869 42,285 81,466 84,323
------- ------- ------- -------
COST OF REVENUE
Cost of revenue .................................. 31,138 31,284 61,116 62,614
Asset impairment loss ............................ -- -- 580 --
------- ------- ------- -------
TOTAL COST OF REVENUE ............................... 31,138 31,284 61,696 62,614
------- ------- ------- -------
GROSS PROFIT ........................................ 9,731 11,001 19,770 21,709
Selling, general, and administrative expense ..... 9,897 8,871 19,601 17,162
------- ------- ------- -------
OPERATING INCOME (LOSS) ............................. (166) 2,130 169 4,547
Interest income, net ............................. 173 80 320 163
Foreign currency transaction gain (loss) ......... (106) 120 (98) 97
------- ------- ------- -------
INCOME (LOSS) BEFORE INCOME TAXES ................... (99) 2,330 391 4,807
Income tax provision (credit) .................... (24) 753 129 1,535
------- ------- ------- -------
INCOME (LOSS) FROM CONTINUING OPERATIONS ............ (75) 1,577 262 3,272
Income from discontinued operations, net of tax .. -- 1 -- 56
------- ------- ------- -------
NET INCOME (LOSS) ................................... $ (75) $ 1,578 $ 262 $ 3,328
======= ======= ======= =======
BASIC EARNINGS (LOSS) PER COMMON SHARE
Income (loss) from continuing operations ......... $ (0.01) $ 0.16 $ 0.03 $ 0.34
Income from discontinued operations .............. -- -- -- 0.01
------- ------- ------- -------
Total basic earnings (loss) per common share ..... $ (0.01) $ 0.16 $ 0.03 $ 0.34
======= ======= ======= =======
BASIC EARNINGS PER PREFERRED SHARE
Income from continuing operations................. $ N/A $ 0.16 $ N/A $ 0.34
Income from discontinued operations............... N/A -- N/A 0.01
------- ------- ------- -------
Total basic earnings per preferred share.......... $ N/A $ 0.16 $ N/A $ 0.34
======= ======= ======= =======
DILUTED EARNINGS PER COMMON SHARE
Income (loss) from continuing operations.......... $ (0.01) $ 0.16 $ 0.03 $ 0.33
Income from discontinued operations............... -- -- -- 0.01
------- ------- ------- -------
Total diluted earnings (loss) per common share.... $ (0.01) $ 0.16 $ 0.03 $ 0.33
======= ======= ======= =======
WEIGHTED NUMBER OF COMMON SHARES AND
COMMON SHARE EQUIVALENTS OUTSTANDING
Basic -- common................................... 10,025 9,406 9,964 9,097
Basic -- preferred................................ -- 299 -- 591
Diluted -- common................................. 10,025 9,772 10,157 9,436
See accompanying notes.
3
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
JUNE DECEMBER
ASSETS 30, 2006 31, 2005
------ ----------- ---------
(Unaudited)
CURRENT ASSETS
Cash and cash equivalents ........................ $ 28,269 $ 34,756
Accounts receivable (less allowance of $832 at
June 30, 2006 and $757 at December 31, 2005) .. 45,095 43,696
Prepaid expenses and other ....................... 4,464 2,467
Deferred income taxes ............................ 172 141
Net current assets of discontinued operations .... 61 130
-------- --------
TOTAL CURRENT ASSETS ............................. 78,061 81,190
-------- --------
PROPERTY, EQUIPMENT, AND PURCHASED SOFTWARE
Computer equipment and office furniture .......... 25,082 23,577
Purchased software ............................... 12,934 12,885
Leasehold improvements ........................... 5,321 5,047
Transportation equipment ......................... 441 425
-------- --------
43,778 41,934
Less -- accumulated depreciation and
amortization .................................. (35,279) (33,871)
-------- --------
NET PROPERTY, EQUIPMENT, AND PURCHASED SOFTWARE .. 8,499 8,063
-------- --------
OTHER ASSETS
Goodwill ......................................... 22,120 22,104
Intangible assets, net ........................... 10,226 11,213
Other ............................................ 590 440
-------- --------
TOTAL OTHER ASSETS ............................... 32,936 33,757
-------- --------
TOTAL ASSETS ........................................ $119,496 $123,010
======== ========
See accompanying notes.
4
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (continued)
(In thousands, except share and per share amounts)
JUNE DECEMBER
LIABILITIES AND SHAREHOLDERS' EQUITY 30, 2006 31, 2005
------------------------------------ ----------- ----------
(Unaudited)
CURRENT LIABILITIES
Accounts payable ................................. $ 7,868 $ 12,753
Accrued payroll, related taxes, and
withholdings .................................. 9,105 10,020
Accrued expenses ................................. 9,655 7,579
Deferred revenue ................................. 1,193 303
-------- --------
TOTAL CURRENT LIABILITIES ........................ 27,821 30,655
-------- --------
LONG-TERM LIABILITIES
Long-term debt ................................... 7,060 10,937
Deferred income taxes ............................ 2,084 2,614
Other long-term liabilities ...................... 503 564
-------- --------
TOTAL LONG-TERM LIABILITIES ...................... 9,647 14,115
-------- --------
SHAREHOLDERS' EQUITY
Preferred stock, $0.01 par value, 4,310,344
shares authorized, none issued and
outstanding at June 30, 2006 and December 31,
2005 .......................................... -- --
Common stock, $0.01 par value, 45,000,000 shares
authorized, 10,288,352 and 9,943,262 shares
issued and outstanding at June 30, 2006 and
December 31, 2005, respectively ............... 103 99
Additional paid-in capital ....................... 70,573 69,148
Unamortized deferred compensation ................ -- (866)
Retained earnings ................................ 10,523 10,261
Accumulated other comprehensive income (loss) .... 829 (402)
-------- --------
TOTAL SHAREHOLDERS' EQUITY ....................... 82,028 78,240
-------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY .......... $119,496 $123,010
======== ========
See accompanying notes.
5
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
SIX MONTHS ENDED
JUNE 30,
--------------------
2006 2005
-------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income .................................................. $ 262 $ 3,328
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Depreciation and amortization ......................... 2,482 2,772
Asset impairment loss ................................. 580 --
Non-cash expense related to stock-based compensation .. 297 375
Other ................................................. 73 (179)
Changes in current assets and liabilities ............. (5,511) (4,311)
Changes in long-term assets and liabilities ........... (750) (1,127)
Income from discontinued operations ................... -- (56)
Net operating cash flow from discontinued operations .. 66 67
-------- --------
Net cash provided by (used in) operating activities ...... (2,501) 869
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property, equipment, and software ............... (2,174) (1,677)
Cash paid for acquisitions, net of cash acquired ............ (468) (21,687)
-------- --------
Net cash used in investing activities .................... (2,642) (23,364)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock ...................... 1,927 2,795
Tax benefit from stock options .............................. 157 --
Payments on long-term debt .................................. (3,877) (3,247)
Proceeds from issuance of long-term debt .................... -- 15,000
Net financing cash flow from discontinued operations ........ -- (11)
-------- --------
Net cash provided by (used in) financing activities ...... (1,793) 14,537
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS ... 449 (1,315)
-------- --------
DECREASE IN CASH AND CASH EQUIVALENTS .......................... (6,487) (9,273)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD ............... 34,756 40,436
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD ..................... $ 28,269 $ 31,163
======== ========
See accompanying notes.
6
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 -- BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared by TechTeam Global, Inc. ("TechTeam" or the "Company" or "we") in
accordance with United States generally accepted accounting principles for
interim financial information and the instructions to Form 10-Q and Article 10
of Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by United States generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments
considered necessary for a fair presentation have been included, and such
adjustments are of a normal recurring nature. Operating results for the three
and six months ended June 30, 2006 are not necessarily indicative of the results
that may be expected for the year ending December 31, 2006. For further
information, refer to the consolidated financial statements and footnotes
thereto included in the Company's Annual Report on Form 10-K for the year ended
December 31, 2005.
NOTE 2 -- COMPREHENSIVE INCOME
Comprehensive income is defined as net income and all non-ownership changes in
shareholders' equity. For the Company, comprehensive income consists of net
income and the foreign currency translation adjustment for the period. A summary
of comprehensive income for the periods presented is as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ----------------
2006 2005 2006 2005
---- ------- ------ -------
(In thousands)
COMPREHENSIVE INCOME
Net income (loss)............................ $(75) $ 1,578 $ 262 $ 3,328
Other comprehensive income (loss) --
Foreign currency translation adjustment... 816 (1,536) 1,231 (2,603)
---- ------- ------ -------
Comprehensive income......................... $741 $ 42 $1,493 $ 725
==== ======= ====== =======
NOTE 3 -- EARNINGS PER SHARE
For periods ending prior to July 1, 2005, earnings per share is computed using
the two-class method as required by Statement of Financial Accounting Standards
("SFAS") No. 128, "Earnings Per Share." The two-class method is an earnings
allocation formula that determines earnings per share separately for common
stock and participating securities according to dividends declared (or
accumulated) and participation rights in undistributed earnings. The Company's
redeemable convertible preferred stock, outstanding between April 2003 and May
2005, was a participating security under SFAS 128. The redeemable convertible
preferred stock had rights to undistributed earnings, but was not required to
participate in net losses of the Company. In May 2005 through a series of
transactions, the holder of the Company's preferred stock converted all 689,656
shares of preferred stock into an equal number of shares of unregistered Company
common stock and sold those shares in the open market pursuant to rules and
regulations of the United States Securities and Exchange Commission.
Earnings per share for common stock is computed using the weighted average
number of common shares and common share equivalents outstanding. Common share
equivalents consist of stock options, unvested restricted stock issued to
employees, and shares held in escrow in connection with the Company's
acquisition of TechTeam Akela SRL. Earnings per share for preferred stock is
computed using the weighted average number of preferred shares outstanding.
Earnings are allocated to each class of stock pro rata based on the weighted
average number of shares and share equivalents outstanding for each class of
stock.
7
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 3 -- EARNINGS PER SHARE (continued)
During the three months ended June 30, 2006, 1,144,716 stock options and shares
of restricted stock were excluded from the computation of diluted earnings per
share due to the net loss for the period. During the three months ended June 30,
2005, 60,000 stock options were excluded from the computation of diluted
earnings per share because the exercise prices of the options were higher than
the average market price of the Company's common stock for the period. During
the six months ended June 30, 2006 and 2005, 349,900 and 65,000 stock options,
respectively, were excluded from the computation of diluted earnings per share
because the exercise prices of the options were higher than the average market
price of the Company's common stock for the respective period.
The following table reconciles the numerators and denominators of the basic and
diluted earnings per common share computations for income from continuing
operations:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
------- ------ ------ ------
(In thousands, except per share data)
Income (loss) from continuing operations ............ $ (75) $1,577 $ 262 $3,272
Less - Income from continuing operations allocated
to preferred shareholders ........................ -- 49 -- 200
------- ------ ------- ------
Income (loss) from continuing operations available
to common shareholders ........................ $ (75) $1,528 $ 262 $3,072
======= ====== ======= ======
Basic weighted average common shares ................ 10,025 9,406 9,964 9,097
Common stock equivalents ............................ -- 366 193 339
------- ------ ------- ------
Diluted weighted average common shares .............. 10,025 9,772 10,157 9,436
======= ====== ======= ======
Weighted average preferred shares ................... -- 299 -- 591
======= ====== ======= ======
Earnings (loss) per share from continuing operations:
Basic earnings (loss) per common share ........... $ (0.01) $ 0.16 $ 0.03 $ 0.34
Basic earnings per preferred share ............... $ N/A $ 0.16 $ N/A $ 0.34
Diluted earnings (loss) per common share ......... $ (0.01) $ 0.16 $ 0.03 $ 0.33
NOTE 4 -- PROPERTY, EQUIPMENT, AND PURCHASED SOFTWARE
We continually evaluate whether events and circumstances have occurred that
indicate the remaining estimated useful lives of long-lived assets may warrant
revision or that the remaining balances may not be recoverable. When factors
indicate that such costs should be evaluated for possible impairment, we
estimate the undiscounted cash flows of the long-lived assets over their
remaining lives to evaluate whether the costs are recoverable. In the first
quarter of 2006, we determined that certain software would no longer be used.
Since we expect no future cash flows related to the software asset, we recorded
an impairment loss of $580,000 in the first quarter of 2006 to cost of revenue
in our IT outsourcing services segment, which represented the net book value of
the asset. We did not record an impairment loss in any other period presented.
8
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 5 -- GOODWILL AND OTHER INTANGIBLE ASSETS
Changes in the carrying amount of goodwill since December 31, 2005 consist of
the following:
IT GOVERNMENT IT CONSULTING
OUTSOURCING TECHNOLOGY AND SYSTEMS
SERVICES SERVICES INTEGRATION TOTAL
----------- ---------- ------------- -------
(In thousands)
Balance as of January 1, 2006........ $371 $19,670 $2,063 $22,104
Goodwill acquired (recovered)..... -- (14) (14)
Effect of exchange rate changes... -- -- 30 30
---- ------- ------ -------
Balance as of June 30, 2006.......... $371 $19,670 $2,079 $22,120
==== ======= ====== =======
Goodwill is not amortized, but instead is subject to an annual impairment test
on October 1 or whenever significant events or changes occur that might indicate
impairment of recorded costs. In performing the Company's goodwill impairment
evaluation, the Company identifies its reporting units and determines the
carrying value of each reporting unit by assigning the assets and liabilities,
including the existing goodwill and intangible assets, to these reporting units.
The Company determines the estimated fair value of each reporting unit and
compares it to the carrying amount of the reporting unit. We did not record an
impairment loss in any period presented.
In the future, to the extent the carrying amount of a reporting unit exceeds the
fair value of a reporting unit, an indication would exist that a reporting
unit's goodwill may be impaired, and the Company would be required to perform
the second step of the impairment test. In the second step, the Company must
compare the implied fair value of the reporting unit goodwill with the carrying
amount of the reporting unit goodwill. The implied fair value of goodwill is
determined by allocating the fair value of the reporting unit to all of the
assets (recognized and unrecognized) and liabilities of the reporting unit in a
manner similar to a purchase price allocation in an acquisition. The residual
fair value after this allocation is the implied fair value of the reporting unit
goodwill.
Other intangible assets consist of the following at June 30, 2006:
WEIGHTED
AVERAGE
ACCUMULATED AMORTIZATION
COST AMORTIZATION PERIOD
------- ------------ -------------
(In thousands)
Customer-related assets .. $12,677 $3,289 7.8 years
Noncompete agreement ..... 885 293 4.3 years
Trademark and name ....... 384 138 3.9 years
------- ------
$13,946 $3,720
======= ======
Intangible assets acquired in a business combination are recognized only if such
assets arise from a contractual or other legal right and are separable, that is,
capable of being sold, transferred, licensed, rented, or exchanged. Intangible
assets acquired in a business combination that do not meet these criteria are
considered a component of goodwill. The useful life of amortizable intangible
assets is determined based on the period from which we expect to realize cash
flows from these assets and considers, among other items, ability and cost to
renew contracts with similar terms and conditions and historical customer
retention rates.
9
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 5 -- GOODWILL AND OTHER INTANGIBLE ASSETS (continued)
We re-evaluate amortizable intangible assets based on undiscounted operating
cash flows whenever significant events or changes occur that might indicate
impairment of recorded costs. If undiscounted cash flows are insufficient to
recover recorded costs, we write down the carrying value of the assets to fair
value based on discounted cash flows or market values. We did not record an
impairment loss for amortizable intangible assets in any period presented.
Our expected future amortization expense for intangible assets held at June 30,
2006 is as follows: $1,062,000 for the remainder of 2006, $1,914,000 in 2007,
$1,908,000 in 2008, $1,630,000 in 2009, and $1,483,000 in 2010.
NOTE 6 -- STOCK-BASED COMPENSATION
ADOPTION OF SFAS 123R
Effective January 1, 2006, the Company adopted the provisions of SFAS 123R,
"Share-Based Payment," which requires companies to measure and recognize
compensation expense for all share-based payment awards to employees and
directors based on estimated fair values of all awards. Compensation expense is
recognized over the period during which an employee or director is required to
provide service in exchange for the award. SFAS 123R supersedes the Company's
previous accounting methodology using the intrinsic value method under
Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock
Issued to Employees," and related interpretations. Under the intrinsic value
method, no share-based compensation expense had been recognized in the Company's
consolidated statements of operations for stock option awards with an exercise
price equal to or greater than the fair value of the underlying stock on the
date of grant.
The Company adopted SFAS 123R using the modified prospective transition method.
Under this transition method, stock-based compensation expense recognized after
the effective date includes: (1) compensation expense for all share-based awards
granted prior to, but not yet vested, as of December 31, 2005, based on the
grant-date fair value estimated in accordance with the original provisions of
SFAS 123, and (2) compensation cost for all share-based awards granted
subsequent to January 1, 2006, based on the grant-date fair value estimated in
accordance with the provisions of SFAS 123R. In accordance with the modified
prospective transition method, the Company's consolidated financial statements
from prior periods have not been restated and do not include the impact of SFAS
123R.
The company recorded pre-tax and after-tax amounts of $39,000 and $26,000,
respectively, for share-based compensation expense during the three months ended
June 30, 2006, as a result of adopting SFAS 123R. The company recorded pre-tax
and after-tax amounts of $203,000 and $134,000, respectively, for share-based
compensation expense during the six months ended June 30, 2006, as a result of
adopting SFAS 123R.
Stock-based compensation expense recognized in each period is based on the value
of the portion of the share-based award that is ultimately expected to vest
during the period. SFAS 123R requires that forfeitures be estimated at the time
of the grant and revised, if necessary, in subsequent periods if actual
forfeitures differ from those estimates. In our pro forma disclosures required
under SFAS 123 for periods prior to 2006, we accounted for forfeitures as they
occurred.
On November 10, 2005 the Financial Accounting Standards Board ("FASB") issued
FASB Staff Position No. 123R-3, "Transition Election Related to Accounting for
Tax Effect of Share-Based Payment Awards." The Company has elected to adopt the
alternative transition method provided in the FASB Staff Position for
calculating the tax effect of share-based compensation pursuant to SFAS 123R.
The alternative transition method includes simplified methods to establish the
beginning balance of the additional paid-in capital pool ("APIC Pool") related
to the tax effect of employee share-based compensation, and to determine the
subsequent impact on the APIC Pool and consolidated statements of cash flows of
the tax effects of employee and director share-based awards that are outstanding
as of the adoption of SFAS 123R.
10
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 6 -- STOCK-BASED COMPENSATION (continued)
STOCK OPTIONS
We have stock options outstanding under three plans -- the 2004 Incentive Stock
and Awards Plan ("2004 Plan"), the 1996 Non-Employee Directors Stock Plan ("1996
Plan"), and the 1990 Nonqualified Stock Option Plan ("1990 Plan"). As a result
of the adoption of the 2004 Plan, options may no longer be granted under the
1990 Plan. Furthermore, our ability to issue options under the 1996 Plan expired
on December 31, 2005. The Company expects to seek approval from its shareholders
for a new non-employee directors stock plan.
Options outstanding under the 1990 Plan have expiration terms ranging from four
to six years and become exercisable ratably over periods ranging from three to
five years. Options outstanding under the 1996 Plan were granted with ten-year
terms and became exercisable immediately on the date of grant. Non-employee
directors of the Company received 100 shares of common stock for attendance at
each Board meeting and an annual award of 10,000 stock options under the 1996
Plan prior to its expiration on December 31, 2005.
Under the 2004 Plan, the Compensation Committee of the Board of Directors may
issue stock options, performance shares, and restricted stock to employees and
consultants representing up to 1,200,000 shares of our common stock. Stock
options may be granted with terms up to ten years and must have an exercise
price that is equal to or greater than the fair market value of our common stock
on the date of grant.
The company recorded $39,000 and $203,000 of compensation expense during the
three and six months ended June 30, 2006, respectively, relating to outstanding
options. No compensation expense was recorded during the three and six months
ended June 30, 2005 related to outstanding options. As of June 30, 2006, total
unrecognized compensation cost related to stock options was $262,000, which we
expect to recognize over a weighted-average period of approximately 1.1 years.
The Company records compensation expense for employee stock options based on the
estimated fair value of the options on the date of grant using the Black-Scholes
option-pricing model. The Company uses historical data among other factors to
estimate the expected price volatility, the expected option term, and the
expected forfeiture rate. The risk-free rate is based on the U.S. Treasury yield
curve in effect at the date of grant for the expected term of the option. The
following assumptions were used to estimate the fair value of options granted
during the six months ended June 30, 2006 and 2005:
SIX MONTHS ENDED JUNE 30,
-------------------------
2006 2005
-------- --------
Expected dividend yield ...... 0.0% 0.0%
Weighted average volatility .. 42% 43%
Risk free interest rate ...... 4.4%-4.7% 3.3%-3.8%
Expected term (in years) ..... 3.0 3.1
11
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 6 -- STOCK-BASED COMPENSATION (continued)
The following table summarizes the Company's activities with respect to its
stock option plans as of and for the six months ended June 30, 2006:
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE REMAINING AGGREGATE
NUMBER OF PRICE PER CONTRACTUAL INTRINSIC
SHARES SHARE TERM VALUE
--------- --------- ----------- ---------
Outstanding at January 1, 2006 .......... 1,402,970 $ 9.41
Granted ............................ 135,000 $ 9.69
Exercised .......................... (305,336) $ 6.31
Canceled ........................... (197,667) $12.07
--------- ------
Outstanding at June 30, 2006 ............ 1,034,967 $ 9.77 7.8 Years $404,380
========= ====== ========= ========
Vested and expected to vest in the future
at June 30, 2006 ................... 1,034,967 $ 9.77 7.8 Years $404,380
========= ====== ========= ========
Exercisable at June 30, 2006 ............ 931,967 $ 9.92 7.9 Years $285,140
========= ====== ========= ========
No options were issued during the three months ended June 30, 2006. The weighted
average grant-date fair value of options issued during the three months ended
June 30, 2005 was $3.50. The weighted average grant-date fair value of options
issued during the six months ended June 30, 2006 and 2005, was $3.21 and $3.61,
respectively. The total intrinsic value of options exercised during the three
months ended June 30, 2006 and 2005, was $888,000 and $1,918,000, respectively,
and the total intrinsic value of options exercised during the six months ended
June 30, 2006 and 2005, was $1,169,000 and $2,041,000, respectively. The
intrinsic value were determined as of the date of exercise.
Cash received from option exercises under all plans for the three months ended
June 30, 2006 and 2005, was $1,366,000 and $2,568,000, respectively. Cash
received from option exercises under all plans for the six months ended June 30,
2006 and 2005, was $1,927,000 and $2,795,000, respectively. The actual tax
benefit realized related to tax deductions from option exercises under all plans
totaled approximately $32,000 and $255,000 for the three months ended June 30,
2006 and 2005, respectively. The actual tax benefit realized related to tax
deductions from option exercises under all plans totaled approximately $71,000
and $289,000 for the six months ended June 30, 2006 and 2005, respectively.
RESTRICTED COMMON STOCK
All restricted stock is authorized and issued under the 2004 Plan. Under the
2004 Plan, the Compensation Committee of the Board of Directors may issue stock
options, performance shares, and restricted stock to employees and consultants
representing up to 1,200,000 shares of our common stock. Performance shares and
restricted stock awards may be granted subject to such terms and conditions as
the Compensation Committee deems appropriate, including a condition that one or
more performance goals be achieved for the participant to realize all or a
portion of the award. No shares of restricted stock were granted under the 2004
Plan during the three months ended June 30, 2006. The Company issued 26,000
shares of restricted stock under the 2004 Plan during the six months ended June
30, 2006, which vest ratably over a period of four years. No shares of
restricted stock were granted under the 2004 Plan during the three and six
months ended June 30, 2005. No performance shares were granted during any period
presented.
12
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 6 -- STOCK-BASED COMPENSATION (continued)
Effective for 2004, our Board of Directors approved the Executive Long-Term
Incentive Plan ("Long-Term Incentive Plan"), under which awards may be issued
under: (1) a restricted stock program that focuses on retaining high performing
executives over a longer period of time, (2) a performance stock program that
focuses on rewarding extraordinary performing executives, and (3) a
non-qualified stock option program that focuses on the long-term retention of
key executives. Awards under these programs are administered in conjunction with
the 2004 Plan whereby shares available for issuance are funded by the shares
available for issuance under the 2004 Plan.
Under the restricted stock program, certain members of management are entitled
to an award of restricted stock equal to a percentage of the participant's
salary if certain operating targets are met on a rolling three-year basis,
except that the first year of the plan will be based on the operating target for
only the first year, and the second year of the plan will be based on the
cumulative operating target for the first and second years. Restricted stock
awards do not vest ratably but instead become 100% vested at the end of five
years from the date of grant. During the three months ended June 30, 2006 and
2005, no shares of restricted stock were granted under the Long-Term Incentive
Plan. During the six months ended June 30, 2006 and 2005, the Company granted
42,306 and 46,460 shares of restricted stock, respectively, to certain employees
under the Long-Term Incentive Plan.
The Company recorded approximately $15,000 and $23,000 of compensation expense
related to outstanding shares of restricted stock under all plans during the
three months ended June 30, 2006 and 2005, respectively. The Company recorded
approximately $81,000 and $47,000 of compensation expense related to outstanding
shares of restricted stock under all plans during the six months ended June 30,
2006 and 2005, respectively. The weighted average grant date fair value of
restricted stock granted under all plans during the six months ended June 30,
2006 and 2005, was $10.47 and $11.35 per share, respectively. Under the
Long-Term Incentive Plan, the fair value of restricted stock awards is
determined based on the average closing trading price of the Company's common
stock for thirty (30) trading days prior to the date of grant. The fair value of
restricted stock awards granted under the 2004 Plan was determined based on the
closing trading price of the Company's common stock on the grant date.
At June 30, 2006 and 2005, there was approximately $733,000 and $486,000,
respectively, of total unrecognized compensation expense related to nonvested
shares of restricted stock granted to employees. Unrecognized compensation
expense at June 30, 2006 is expected to be recognized over a weighted-average
period of 3.9 years. Unrecognized compensation expense related to nonvested
shares of restricted stock awards was recorded as unamortized deferred
compensation within shareholders' equity at December 31, 2005. As part of the
modified prospective transition method of adoption of SFAS 123R, approximately
$866,000 of unamortized deferred compensation at December 31, 2005 has been
reclassified as a component of additional paid-in-capital.
The following table summarizes the Company's activities with respect to its
nonvested stock activity for the six months ended June 30, 2006:
WEIGHTED
AVERAGE
EXERCISE
NUMBER OF PRICE PER
SHARES SHARE
--------- ---------
Nonvested at January 1, 2006 .. 46,460 $11.35
Granted ....................... 68,306 $10.47
Vested ........................ -- $ --
Forfeited ..................... (29,587) $10.93
------- ------
Nonvested at June 30, 2006 .... 85,179 $10.79
======= ======
13
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 6 -- STOCK-BASED COMPENSATION (continued)
PRO FORMA EMPLOYEE SHARE-BASED COMPENSATION EXPENSE
Prior to December 31, 2005, the Company accounted for its share-based
compensation arrangements in accordance with the provisions and related
interpretations of APB 25. The following pro forma table illustrates the effect
on net income and earnings per share had the share-based awards been determined
consistent with SFAS 123R:
THREE MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, JUNE 30,
2005 2005
------------ ----------
(In thousands, except per
share data)
Reported net income ........................................ $1,578 $3,328
Add -- total stock-based compensation expense included in
reported net income, net of tax ......................... 29 56
Deduct -- total stock-based compensation expense determinedd
under the fair value method for all awards, net of tax .. (351) (623)
------ ------
Pro forma net income ....................................... $1,256 $2,761
====== ======
Basic earnings per common and preferred share:
As reported ............................................. $ 0.16 $ 0.34
Pro forma ............................................... $ 0.13 $ 0.28
Diluted earnings per common share:
As reported ............................................. $ 0.16 $ 0.33
Pro forma ............................................... $ 0.12 $ 0.28
NOTE 7 -- INCOME TAXES
For the three months ended June 30, 2006, the consolidated effective tax rate of
24.2% differs from the statutory tax rate in the United States of 34% primarily
due to the tax benefit of tax rates in certain foreign countries that are lower
than 34%, the utilization of foreign tax loss carryforwards, and adjusting the
year-to-date effective tax rate to approximate the estimated effective tax rate
for fiscal 2006. For the six months ended June 30, 2006, the consolidated
effective tax rate of 33.0% differs from the statutory tax rate of 34% primarily
due to the tax benefit of tax rates in certain foreign countries that are lower
than 34% and utilization of foreign tax loss carryforwards.
For the three and six months ended June 30, 2005, the consolidated effective tax
rate of 32.3% and 31.9%, respectively, differs from the statutory tax rate of
34% primarily due to the tax benefit of tax rates in certain foreign countries
that are lower than 34% and the tax benefit of certain permanent deductions.
No provision has been made with respect to approximately $8,773,000 million of
undistributed earnings of foreign subsidiaries at June 30, 2006, since we
consider these earnings to be permanently reinvested.
In July 2006, the FASB issued FASB Interpretation No. 48, "Accounting for
Uncertainty in Income Taxes" ("FIN 48"). FIN 48 prescribes a recognition
threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken in a tax return. FIN 48 also provides
guidance regarding subsequent reversal of a tax position, balance sheet
classification, accounting in interim periods, disclosure, and transition. FIN
48 is effective for fiscal years beginning after December 15, 2006. The Company
has not completed its analysis of the potential impact of FIN 48 on the
Company's financial position or results of operations.
14
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 8 -- SEGMENT REPORTING
Operating segments are defined as components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker, or decision-making group, in deciding how to
allocate resources and in assessing performance. Our chief operating
decision-making group is the Executive Leadership Team, which is comprised of
the President and the lead executives of each of our functional divisions. The
operating segments are managed separately because each operating segment
represents a strategic business unit that offers different services.
The accounting policies of the operating segments are the same as those
described in Note 1 to the Company's consolidated financial statements contained
in the Company's Annual Report on Form 10-K for the year ended December 31,
2005. We evaluate segment performance based on segment gross profit. We do not
allocate assets to operating segments, but we allocate certain amounts of
depreciation and amortization expense to operating segments.
Financial information for our operating segments is as follows:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
-------- ------- -------- -------
(In thousands)
REVENUE
IT outsourcing ................................ $20,412 $18,640 $39,509 $37,739
Government technology services ................ 11,702 14,218 23,486 29,180
IT consulting and systems integration ......... 6,270 7,080 13,473 12,931
Technical staffing ............................ 2,185 2,116 4,380 4,132
Learning services ............................. 300 231 618 341
------- ------- ------- -------
Total revenue .................................... $40,869 $42,285 $81,466 $84,323
======= ======= ======= =======
GROSS PROFIT
IT outsourcing ................................ $ 4,778 $ 4,528 $ 9,619 $ 9,441
Less-- asset impairment loss .................. -- -- 580 --
------- ------- ------- -------
Total IT outsourcing services .............. 4,778 4,528 9,039 9,441
Government technology services ................ 3,283 4,256 6,723 8,592
IT consulting and systems integration ......... 1,179 1,588 3,025 2,626
Technical staffing ............................ 387 538 783 942
Learning services ............................. 104 91 200 108
------- ------- ------- -------
Total gross profit ............................... 9,731 11,001 19,770 21,709
Selling, general, and administrative expense .. 9,897 8,871 19,601 17,162
Interest income, net .......................... 173 80 320 163
Foreign currency transaction gain (loss) ...... (106) 120 (98) 97
------- ------- ------- -------
Income (loss) before income taxes ................ $ (99) $ 2,330 $ 391 $ 4,807
======= ======= ======= =======
15
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 8 -- SEGMENT REPORTING (continued)
We attribute revenue to different geographic areas on the basis of the location
providing the services to the customer. Revenue by geographic area is presented
below:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
------- ------- ------- -------
(In thousands)
REVENUE
United States ... $27,063 $29,550 $54,897 $58,945
Europe:
Belgium ...... 9,061 9,361 17,868 18,266
Other ........ 4,745 3,374 8,701 7,112
------- ------- ------- -------
Total Europe .... 13,806 12,735 26,569 25,378
------- ------- ------- -------
Total revenue ...... $40,869 $42,285 $81,466 $84,323
======= ======= ======= =======
Revenue from customers, or groups of customers under common control, that
comprise 10% or greater of our total revenue in any period presented are as
follows:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
---- ---- ---- ----
Ford Motor Company and Subsidiaries... 27.2% 27.5% 27.0% 27.9%
United States Government.............. 25.1% 29.6% 25.3% 29.8%
---- ---- ---- ----
Total................................. 52.3% 57.1% 52.3% 57.7%
==== ==== ==== ====
We conduct business under multiple contracts with various entities within the
Ford Motor Company organization and with various agencies and departments of the
United States Government. For the three and six months ended June 30, 2006 and
2005, no single agency or department of the United States Government comprised
10% or greater of the Company's total revenue.
NOTE 9 -- CONTINGENCIES
On July 21, 2006, the Company was notified by the U.S. Department of Labor
Occupational Safety and Health Agency that its former Vice President, Chief
Financial Officer, and Treasurer, David W. Morgan, had filed a complaint against
the Company alleging discriminatory employment practices in violation of Section
806 of the Corporate and Criminal Fraud Accountability Act of 2002, Title VIII
of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1514A. In his complaint,
Mr. Morgan asserts that he resigned from employment with the Company due to
actions taken against him as a result of certain alleged protected activities.
Mr. Morgan seeks unspecified economic and special damages. The Company believes
Mr. Morgan's assertions are without merit, and it intends to vigorously defend
itself against this complaint.
Separately, Mr. Morgan has made a demand on the Company seeking compensation for
an allegedly wrongful termination of his employment with the Company. He has
also demanded retraction of certain allegedly defamatory statements published by
the Company, and payment of unspecified damages as result of these statements
having been made.
16
TECHTEAM GLOBAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(continued)
NOTE 9 -- CONTINGENCIES (continued)
As previously reported in the Company's Quarterly Report on Form 10-Q for the
first quarter of 2006, the Company terminated the Company's employment contract
with William F. Coyro, Jr., its former President and Chief Executive Officer.
Dr. Coyro has notified the Company that he is seeking damages resulting from his
alleged wrongful termination and alleged defamatory statements published by the
Company.
No amounts have been recorded in the accompanying financial statements for any
potential liability to Dr. Coyro or Mr. Morgan as the Company believes their
claims are without merit and that any potential liability cannot be reasonably
estimated at this time.
In addition to the above matters, from time to time the Company is involved in
various routine litigation matters arising in the ordinary course of its
business. None of these matters, individually or in the aggregate, currently is
material to the Company.
NOTE 10 -- DISCONTINUED OPERATIONS
TechTeam Capital Group, LLC ("Capital Group"), a subsidiary of the Company,
previously wrote leases for computer, telecommunications, and other types of
capital equipment. Capital Group ceased writing new leases in March 2000 and has
no remaining active leases. The primary activity that remains in closing down
the leasing operation is the collection of accounts receivable. As a result,
Capital Group has been presented as a discontinued operation in accordance with
SFAS No. 144, "Accounting for the Disposal or Impairment of Long-Lived Assets."
Under SFAS 144, the operating results of Capital Group are presented separately
from continuing operations in the accompanying financial statements for all
periods presented. Capital Group previously was reported as a separate operating
segment. Summarized information for Capital Group is as follows:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2006 2005 2006 2005
---- ---- ---- ----
(In thousands)
Revenue $-- $1 $-- $68
Income before income taxes... $-- $1 $-- $84
17
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q, including "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in Item 2, contains
forward-looking statements that involve risks and uncertainties, as well as
assumptions that, if they never materialize or prove incorrect, could cause the
results of TechTeam Global, Inc. and its consolidated subsidiaries ("TechTeam")
to differ materially from those expressed or implied by such forward-looking
statements. All statements other than statements of historical fact are
statements that could be deemed forward-looking statements, including any
projections of revenue, gross margin, expenses, earnings or losses from
operations, synergies, or other financial items; any statements of the plans,
strategies, and objectives of management for future operations; any statement
concerning developments or performance relating to our services; any statements
regarding future economic conditions or performance; any statements of
expectation or belief; and any statements of assumptions underlying any of the
foregoing. The risks, uncertainties and assumptions referred to above include
the performance of contracts by suppliers, customers, and partners; employee
management issues; the difficulty of aligning expense levels with revenue
changes; complexities of global political and economic developments; and other
risks that are described herein, including but not limited to the items
discussed in "Factors that Could Affect Future Results" set forth in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in Item 2 of this report, and that are otherwise described from time
to time in TechTeam's Securities and Exchange Commission reports filed after
this report. TechTeam assumes no obligation and does not intend to update these
forward-looking statements.
ITEM 2 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
TechTeam is a global provider of information technology ("IT") and business
process outsourcing services to Fortune 1000 companies, multinational companies,
product providers, small and mid-size companies, and government entities.
Our operating results have declined in the first and second quarters of 2006,
from the comparable periods in 2005, as evidenced by a decline in revenue, gross
profit and gross margin, and, consequently, operating and net income. The net
decline in performance is primarily the result of the conclusion and wind-down
of certain contracts in both our Government Technology Services and IT
Consulting and Systems Integration segments, the latter of which provided
significant growth in 2005. These declines were partially offset by organic
revenue growth in our IT Outsourcing Services segment from new customer accounts
obtained in the fourth quarter of 2005; however, our profitability in this
segment suffered due to expenses incurred in the ramp-up of two of these new
customer accounts, the largest of which was launched in three phases over the
past eight months.
We are committed to delivering world-class service. For that reason, we have
been careful to staff these new customer accounts with additional resources
during their initial ramp-up. While this has delayed profitability on these
accounts, we believe it has proven our determination to deliver quality customer
results, on which long-term client relationships are built. These accounts
improved their performance from the first quarter and, as our partnerships with
these new customers grow and as our action plans are executed, we expect
continuing improvement in the profitability of these accounts.
Our operating results for the six months ended June 30, 2006, also include the
negative impact of an asset impairment loss of $580,000, recorded to cost of
revenue during the first quarter, and legal and professional fees incurred
during the first and second quarters totaling $1.3 million associated with a
complaint filed by a shareholder, Costa Brava Partnership III, L.P. ("Costa
Brava"), seeking to inspect certain books and records of the Company, the
related proxy contest initiated by Costa Brava related to the election of the
Company's Board of Directors, and the Settlement Agreement resolving these
matters. The negative impact of these items was partially offset by the positive
impact from improved utilization of our facilities in Southfield, Michigan, and
Bucharest, Romania, the increasing utilization of our Romanian help desk to
reduce the cost of existing business, and our acquisition of TechTeam Akela SRL
("Akela").
18
We will meet certain challenges as we look to improve our operating performance
in future periods. We anticipate certain increases to selling, general and
administrative ("SG&A") expense as we continue to make investments in our global
sales and marketing capabilities, additional executive talent, our technology
infrastructure, and the expansion of the technical certifications of the Company
and its employees in areas such as the Information Technology Infrastructure
Library standard, or ITIL. Furthermore, we expect the costs of ongoing
compliance with the Sarbanes-Oxley Act of 2002 ("SOX Act") to increase over the
second half of 2006, when compared to the first half of 2006, as we move further
into our assessment of controls as of December 31, 2006. However, we also expect
certain reductions to SG&A expense in future periods as certain leases have
expired and have not been renewed, we attempt to reduce inefficient and
non-value-added costs, and we continue to maintain our balance between investing
in revenue growth and containing costs.
While the integration of our help desk facility in Romania has improved the
profitability and flexibility of our existing business and multi-lingual help
desk, the effects of increasing competition for resources can be seen in
Romania. Over the past year, a number of companies, including outsourcing
competitors, have opened call centers in Bucharest. As a result of the increased
competition for multi-lingual resources, over the long-term, we expect our labor
costs to continue to increase at a rate greater than the Company experiences in
other regions in which we operate. In an effort to address this risk, we are
evaluating other regions within Romania and in the Asia-Pacific region to
establish new operations.
Finally, as reported in the Company's Annual Report on Form 10-K, we renewed the
Company's Ford Motor Company ("Ford") Global SPOC Program contract in December
2005. While Ford continues to be a significant customer of the Company, we
estimate that our total revenue from Ford under all programs will decline
approximately 3-5% in 2006 from 2005. Please refer to our discussion of Ford in
the "Impact of Business with Major Clients" section of MD&A.
Leadership Transition
In addition to the operating challenges we are navigating, TechTeam has been
undergoing a period of transition in its leadership over the past three
quarters. Most importantly, William C. Brown was hired in February 2006 as
President and Chief Executive Officer, replacing William F. Coyro, Jr., the
founder of the Company. In June 2006, the Company named a new Chief Financial
Officer, and in November 2005, the Company hired a new President of TechTeam
Government Solutions, Inc. ("TTGSI," formerly Digital Support Corporation), to
replace the departing Presidents of TTGSI and Sytel, Inc. ("Sytel"). As Mr.
Brown has gained knowledge and insight about the Company's service offerings,
customers, management, and business opportunities, he has initiated the process
of realigning our management structure into three macro business units -- the
Americas; Europe, Middle East and Africa ("EMEA"); and TechTeam Government
Solutions -- with the leader for each unit being responsible for the unit's
profit and loss financial performance. Consistent with the realignment of
TechTeam's organization along geographic units, he has realigned certain
executives and managers in order to support growth and address the continued
globalization of the Company's business, including the need to further
standardize the Company's processes and service delivery, and the expansion into
new geographies such as the Asia-Pacific Region.
We implemented a new sales management process in the first quarter with the
goal of substantially increasing the focus of our new business pipeline
development activities. Pipeline status is now managed by business unit and by
sales resource within each business unit. As a result of this process
change, the size and quality of the opportunities in our pipeline has improved.
However, our sales cycle remains lengthy and we may not see the full benefits of
our efforts until later in 2006 or early 2007. Furthermore, to the extent that
we are successful in obtaining large IT outsourcing customers, our experience
indicates that there is a lag time between the launch of the project and when it
produces a profit, the length of which is dependent upon the size of the
customer, the project's launch schedule, and the complexity of the project.
A leadership change also occurred in the members of the Company's Board of
Directors. As a result of the Settlement Agreement entered into between the
Company and Costa Brava on May 4, 2006, a Board of Directors consisting of six
new directors was elected at the Company's Annual Meeting on June 14, 2006.
Aside from the six new directors, the other two directors on the Company's Board
are Mr. Brown and Richard R. Widgren. Mr. Brown became a director on April 26,
2006, and Mr. Widgren has been a director since May 24, 2005. This reconstituted
Board has strong industry knowledge and leadership experience.
19
RESULTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2006 COMPARED TO JUNE 30, 2005
REVENUE
THREE MONTHS ENDED JUNE 30,
--------------------------- INCREASE %
2006 2005 (DECREASE) CHANGE
------- ------- ---------- ------
(In thousands, except percentages)
REVENUE
IT outsourcing services ................ $20,412 $18,640 $ 1,772 9.5%
Government technology services ......... 11,702 14,218 (2,516) (17.7)%
IT consulting and systems integration .. 6,270 7,080 (810) (11.4)%
Technical staffing ..................... 2,185 2,116 69 3.3%
Learning services ...................... 300 231 69 29.9%
------- ------- -------
TOTAL REVENUE ............................. $40,869 $42,285 $(1,416) (3.3)%
======= ======= =======
As shown in the above table, the majority of the overall revenue decline of 3.3%
to $40.9 million for the quarter ended June 30, 2006, from $42.3 million for the
comparable quarter in 2005, is attributable to the conclusion of certain
contracts in our Government Technology Services segment, and the wind-down of
certain systems implementation and training projects in our IT Consulting and
Systems Integration segment that drove significant growth in this segment in
2005. These decreases were partially offset by our acquisition of TechTeam Akela
SRL ("Akela") on October 3, 2005, and revenue growth in our IT Outsourcing
Services segment from new customer accounts. Excluding revenue from Akela,
revenue decreased 5.8% to $39.8 million for the quarter ended June 30, 2006,
from the comparable quarter in 2005. The effect of exchange rate changes on
reported revenue for the second quarter of 2006, relative to the second quarter
of 2005, was not significant.
IT Outsourcing Services
Revenue from our IT Outsourcing Services segment increased to $20.4 million for
the quarter ended June 30, 2006, from $18.6 million for the comparable quarter
in 2005. We experienced an increase in revenue of 15.2% from IT Outsourcing
Services in the United States, while revenue in Europe increased 4.2%. The
revenue growth in the U.S. is primarily due to new customer contracts obtained
during the fourth quarter of 2005 that provided $1.8 million in revenue in the
second quarter. The revenue growth in Europe is primarily from our shared
services offering for our pharmaceutical clients, which grew by 47.9% from the
second quarter of 2005, and revenue growth from Ford Motor Company ("Ford").
Globally, IT Outsourcing Services revenue generated from Ford declined 3.0% to
$9.2 million for the quarter ended June 30, 2006, from $9.5 million for the
comparable quarter in 2005. Revenue from Ford declined in each country except
the United Kingdom, where we began providing SPOC services to the Jaguar and
Land Rover group on March 17, 2006. Revenue from Ford in other regions decreased
primarily due to a reduction in the number of seats supported as Ford continues
to restructure its operations and reduce its worldwide workforce and from lower
prices charged under the Global SPOC Program contract renewal on December 1,
2005. Please refer to our discussion of Ford in the "Impact of Business with
Major Clients" section of MD&A.
Government Technology Services
Revenue from our Government Technology Services segment decreased 17.7% to $11.7
million for the quarter ended June 30, 2006, from $14.2 million for the
comparable quarter in 2005, primarily due to the conclusion of certain contracts
that provided $2.0 million in revenue in the second quarter of 2005, and the
completion of projects at other customers. We are diligently working to replace
this revenue through our pursuit of new contract vehicles, while maintaining a
keen focus on existing contracts that are scheduled to expire where the Company
will have to recompete for the work. The new business development team and sales
pipeline have been rebuilt. Consistent with our other leadership and process
changes, it may take two or more quarters for the full benefit of
20
these changes to be realized through enough contract wins to reflect
year-over-year revenue growth.
IT Consulting and Systems Integration
Revenue from our IT Consulting and Systems Integration segment decreased 11.4%
to $6.3 million for the quarter ended June 30, 2006, from $7.1 million for the
comparable quarter in 2005, due to the wind-down of certain systems
implementation and training projects in the hospitality industry that drove
significant growth in this segment in 2005. The decline in revenue was partially
offset by our acquisition of TechTeam Akela SRL ("Akela") on October 3, 2005.
Excluding revenue from Akela, revenue from IT Consulting and Systems Integration
decreased 21.8% to $5.5 million for the quarter ended June 30, 2006, from the
comparable quarter in 2005. While the decline in revenue from certain
project-based work was expected, we were not able to replace the work prior to
the decline in revenue. Yet, we expect to execute a new contract with a current,
major hospitality customer that, depending on the customer's plans, could
represent a substantial new, multi-year program beginning in the fourth quarter
of 2006.
Geographic Discussion
Total revenue generated in the United States decreased 8.4% to $27.1 million for
the quarter ended June 30, 2006, from $29.6 million for the comparable quarter
in 2005, primarily due to the aforementioned decline in revenue from our
Government Technology Services and IT Consulting and Systems Integration
segments. These declines were partially offset by revenue from new customer
contracts awarded in the fourth quarter of 2005.
Revenue generated in Europe increased 8.4% to $13.8 million for the quarter
ended June 30, 2006, from $12.7 million for the comparable quarter in 2005,
primarily due to our acquisition of Akela. Excluding revenue from Akela, revenue
generated in Europe increased 0.3% to $12.8 million for the quarter ended June
30, 2006, from the comparable period in 2005, primarily due to an increase in
revenue from IT Outsourcing Services offset by a decrease in revenue from IT
Consulting and Systems Integration services. The effect of exchange rate changes
on reported revenue for the second quarter of 2006, relative to the second
quarter of 2005, was not significant.
GROSS PROFIT
THREE MONTHS ENDED JUNE 30,
--------------------------------------
2006 2005
----------------- ------------------
GROSS GROSS INCREASE %
AMOUNT MARGIN % AMOUNT MARGIN % (DECREASE) CHANGE
------ -------- ------- -------- ---------- ------
(In thousands, except percentages)
GROSS PROFIT
IT outsourcing services ... $4,778 23.4% $ 4,528 24.3% $ 250 5.5%
Government technology
services ............... 3,283 28.1% 4,256 29.9% (973) (22.9)%
IT consulting and systems
integration ............ 1,179 18.8% 1,588 22.4% (409) (25.8)%
Technical staffing ........ 387 17.7% 538 25.4% (151) (28.1)%
Learning services ......... 104 34.7% 91 39.4% 13 14.3%
------ ------- -------
TOTAL GROSS PROFIT ........... $9,731 23.8% $11,001 26.0% $(1,270) (11.5)%
====== ======= =======
Consistent with revenue, the majority of the overall decline in gross profit of
11.5% to $9.7 million for the quarter ended June 30, 2006, from $11.0 million
for the comparable quarter in 2005, is attributable to the conclusion of certain
contracts in our Government Technology Services segment and the wind-down of
certain systems implementation and training projects in our IT Consulting and
Systems Integration segment that drove significant growth in this segment in
2005. These decreases were partially offset by gross profit growth in our IT
Outsourcing Services segment from new customer accounts.
21
IT Outsourcing Services
Gross profit from our IT Outsourcing Services segment increased 5.5% to $4.8
million for the quarter ended June 30, 2006, from $4.5 million for the
comparable quarter in 2005. Gross margin (defined as gross profit divided by
revenue) from IT Outsourcing Services decreased to 23.4% for the quarter ended
June 30, 2006, from 24.3% for the comparable period in 2005. This segment
experienced an increase in gross profit and gross margin related to our shared
services offering for our pharmaceutical clients where we experienced 47.9%
revenue growth and were successful in transitioning the majority of the service
delivery for these customers to our Romanian facility. However, the improvement
in gross margin was fully offset by delayed profitability on two, major, new
customer accounts, the largest of which was launched in three phases over the
past eight months. We are committed to delivering world-class service. For that
reason, we have been careful to staff these new customer accounts with
additional resources during their initial ramp-up. While this has delayed
profitability on these accounts, we believe it has proven our determination to
deliver quality customer results, on which long-term client relationships are
built. These accounts improved their performance from the first quarter and, as
our partnerships with these new customers grow and as our action plans are
executed, we expect continuing improvement in these accounts.
Government Technology Services
Gross profit from our Government Technology Services segment decreased 22.9% to
$3.3 million for the quarter ended June 30, 2006, from $4.3 million for the
comparable quarter in 2005. Gross margin from Government Technology Services
decreased to 28.1% for the quarter ended June 30, 2006, from 29.9% for the
comparable period in 2005. The decrease in gross profit and gross margin is
primarily due to the conclusion of certain contracts that provided $2.0 million
in revenue in the second quarter of 2005, and the completion of projects at
other customers. The inclusion of resale items for both periods had the effect
of reducing gross margin by approximately 90 and 20 basis points in the second
quarter of 2006 and 2005, respectively.
IT Consulting and Systems Integration
Gross profit from our IT Consulting and Systems Integration segment decreased
25.8% to $1.2 million for the quarter ended June 30, 2006, from $1.6 million for
the comparable quarter in 2005. Gross margin from IT Consulting and Systems
Integration decreased to 18.8% for the quarter ended June 30, 2006, from 22.4%
for the comparable quarter in 2005. The decrease in gross profit and gross
margin was primarily due to the wind-down of certain systems implementation and
training projects in the hospitality industry that drove significant growth in
this segment in 2005, and we experienced a temporary decline in gross profit and
gross margin from our on-going project installing personal computers at Ford
subcontracted through Dell Inc. These declines were partially offset by our
acquisition of Akela on October 3, 2005. Excluding the gross profit contributed
by Akela, gross profit decreased 40.9% to $938,000 for the quarter ended June
30, 2006, from the comparable quarter in 2005, and gross margin decreased to
16.9% from 22.4%. While some of the decline in gross profit and gross margin
from the wind-down of certain project-based work was expected, we were not able
to replace the work prior to these declines. Yet, we expect to execute a new
contract with a current, major hospitality customer that, depending on the
customer's plans, could represent a substantial new, multi-year program
beginning in the fourth quarter of 2006.
22
OPERATING EXPENSES AND OTHER
THREE MONTHS
ENDED JUNE 30,
--------------- INCREASE %
2006 2005 (DECREASE) CHANGE
------ ------ ---------- ------
(In thousands, except percentages)
OPERATING EXPENSES AND OTHER
Selling, general, and administrative expense .. $9,897 $8,871 $1,026 11.6%
Net interest income ........................... $ 173 $ 80 $ 93 116%
Foreign currency transaction gain (loss) ...... $ (106) $ 120 $ (226) (188)%
Income tax provision (credit) ................. $ (24) $ 753 $ (777) (103)%
Selling, general, and administrative ("SG&A") expense increased 11.6% to $9.9
million, or 24.2% of total revenue, for the three months ended June 30, 2006,
from $8.9 million, or 21.0% of total revenue, for the comparable period in 2005.
The increase in SG&A expense can be primarily attributed to: (1) legal and
professional fees associated with responding to a complaint filed by a
shareholder, Costa Brava Partnership III, L.P. ("Costa Brava"), seeking to
inspect certain books and records of the Company, matters relating to the proxy
contest initiated by Costa Brava related to the election of the Company's Board
of Directors, and the Settlement Agreement with respect to these matters
($851,000), (2) the acquisition of Akela ($285,000), and (3) an increase in
sales and marketing expenses as we continue to make prudent investments in our
sales and marketing function globally ($426,000). These increases were partially
offset by: (1) a decrease in costs associated with the Company's ongoing
compliance with the SOX Act ($525,000) and a shift in these costs from the first
half of the year to the second half of the year when compared to 2005, and (2) a
decline in incentive compensation expense ($60,000) as a result of the decline
in the Company's revenue and operating income from 2005.
On May 4, 2006, the Company and Costa Brava entered into a settlement agreement
(the "Settlement"). Under the terms of the Settlement, Costa Brava withdrew its
proposal to nominate its own slate of directors for the Company and dismissed
the complaint with prejudice upon the election of directors at the Company's
Annual Shareholders' Meeting on June 14, 2006. Further, under the Settlement,
the Company agreed to reimburse Costa Brava for its documented expenses incurred
in connection with Costa Brava's efforts to replace the Company's current Board
and its efforts to obtain certain books and records of the Company. The Company
recorded a charge of $600,000 in the quarter ended June 30, 2006, for the
estimated amount of expense reimbursement, which is included in the $851,000 of
legal and professional fees noted in the preceding paragraph.
Net interest income increased to $173,000 for the three months ended June 30,
2006, from $80,000 for the comparable period in 2005, as a result of higher
average rates of return on invested cash equivalents and less average
outstanding long-term debt.
For the three months ended June 30, 2006, the consolidated effective tax rate of
24.2% differs from the statutory tax rate in the United States of 34% primarily
due to the tax benefit of tax rates in certain foreign countries that are lower
than 34%, the utilization of foreign tax loss carryforwards, and adjusting the
year-to-date effective tax rate to approximate the estimated effective tax rate
for fiscal 2006. For the three months ended June 30, 2005, the consolidated
effective tax rate of 32.3% differs from the statutory tax rate of 34% primarily
due to the tax benefit of tax rates in certain foreign countries that are lower
than 34% and the tax benefit of certain permanent deductions.
23
RESULTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 2006 COMPARED TO JUNE 30, 2005
REVENUE
SIX MONTHS
ENDED JUNE 30,
----------------- INCREASE %
2006 2005 (DECREASE) CHANGE
------- ------- ---------- ------
(In thousands, except percentages)
REVENUE
IT outsourcing services ................ $39,509 $37,739 $ 1,770 4.7%
Government technology services ......... 23,486 29,180 (5,694) (19.5)%
IT consulting and systems integration .. 13,473 12,931 542 4.2%
Technical staffing ..................... 4,380 4,132 248 6.0%
Learning services ...................... 618 341 277 81.2%
------- ------- -------
TOTAL REVENUE ............................. $81,466 $84,323 $(2,857) (3.4)%
======= ======= =======
As shown in the above table, the majority of the overall revenue decline of 3.4%
to $81.5 million for the six months ended June 30, 2006, from $84.3 million from
the comparable period in 2005, is attributable to the conclusion of certain
contracts in our Government Technology Services segment and the wind-down of
certain systems implementation and training projects in our IT Consulting and
Systems Integration segment that drove significant growth in this segment in
2005. These decreases were partially offset by our acquisition of Akela on
October 3, 2005, and revenue growth in our IT Outsourcing Services segment from
new customer accounts. Excluding revenue from Akela, revenue decreased 5.6% to
$79.6 million for the six months ended June 30, 2006, from the comparable period
in 2005. Revenue for the six months ended June 30, 2006 was also negatively
affected by the strengthening of the U.S. dollar relative to the European euro
and other international currencies in which the Company conducts business, which
reduced revenue by approximately $1.4 million over the comparable period in
2005.
IT Outsourcing Services
Revenue from our IT Outsourcing Services segment increased to $39.5 million for
the six months ended June 30, 2006, from $37.7 million for the comparable period
in 2005. We experienced an increase in revenue of 11.8% from IT Outsourcing
Services in the United States, while revenue in Europe decreased 1.9%. The
revenue growth in the U.S. is primarily due to new customer contracts obtained
during the fourth quarter of 2005 that provided $3.2 million in revenue for the
six months ended June 30, 2006. Europe experienced revenue growth primarily from
our shared services offering for our pharmaceutical clients, which grew by 26.5%
in 2006 from the six months ended June 30, 2005. Revenue growth in Europe was
offset by a decline in revenue from Ford and the strengthening of the U.S.
dollar relative to the European euro and other international currencies in which
the Company conducts business. The strengthening of the U.S dollar reduced
revenue by approximately $1.0 million over the comparable period in 2005.
IT Outsourcing Services revenue generated from Ford declined 7.7% to $17.9
million for the six months ended June 30, 2006, from $19.4 million for the
comparable period in 2005. Revenue from Ford declined in each country except the
United Kingdom, where we began providing SPOC services to the Jaguar and Land
Rover group on March 17, 2006. Revenue from Ford in other regions decreased
primarily due to a reduction in the number of seats supported as Ford continues
to restructure its operations and reduce its worldwide workforce and from lower
prices charged under the Global SPOC Program contract renewal on December 1,
2005. Excluding the effect of changes in foreign exchange rates, revenue from
Ford declined approximately 5-6% in 2006 from the six months ended June 30,
2005. Please refer to our discussion of Ford in the "Impact of Business with
Major Clients" section of MD&A.
24
Government Technology Services
Revenue from our Government Technology Services segment decreased 19.5% to $23.5
million for the six months ended June 30, 2006, from $29.2 million for the
comparable period in 2005, primarily due to the conclusion of certain contracts
that provided additional revenue of $3.6 million for the six months ended June
30, 2005, as compared to the same period in 2006, and the completion of other
projects at other customers. As noted earlier, we are diligently working to
replace this revenue through our pursuit of new contract vehicles, while
maintaining a keen focus on existing contracts that are scheduled to expire
where the Company will have to recompete for the work. The new business
development team and sales pipeline have been rebuilt under the leadership of
our new President of TTGSI. Consistent with our other leadership and process
changes, it may take two or more quarters for the full benefit of these changes
to be realized through enough contract wins to reflect year-over-year revenue
growth.
IT Consulting and Systems Integration
Revenue from our IT Consulting and Systems Integration segment increased 4.2% to
$13.5 million for the six months ended June 30, 2006, from $12.9 million for the
comparable period in 2005, due to our acquisition of Akela on October 3, 2005.
Excluding revenue from Akela, revenue from IT Consulting and Systems Integration
decreased 5.9% to $12.2 million for the six months ended June 30, 2006, from the
comparable period in 2005, due to the previously-mentioned wind-down of certain
systems implementation and training projects in the hospitality industry that
drove significant growth in this segment in 2005. While the decline in revenue
from this project-based work was expected, we were not able to replace the work
prior to the decline in revenue. Yet, we expect to execute a new contract with a
current, major hospitality customer that, depending on the customer's plans,
could represent a substantial multi-year program beginning in the fourth quarter
of 2006.
Geographic Discussion
Total revenue generated in the United States decreased 6.9% to $54.9 million for
the six months ended June 30, 2006, from $58.9 million for the comparable period
in 2005, primarily due to the aforementioned decline in revenue from our
Government Technology Services and IT Consulting and Systems Integration
segments. These declines were partially offset by revenue from new customer
contracts awarded in the fourth quarter of 2005.
Revenue generated in Europe increased 4.7% to $26.6 million for the six months
ended June 30, 2006, from $25.4 million for the comparable period in 2005,
primarily due to our acquisition of Akela. Excluding revenue from Akela, revenue
generated in Europe decreased 2.5% to $24.7 million for the six months ended
June 30, 2006, from the comparable period in 2005, primarily due to the effect
of changes in foreign exchange rates. If revenue in Europe for the six months
ended June 30, 2006 were translated into U.S. dollars at the average exchange
rate for the comparable period in 2005, reported revenue would have been
increased by approximately $1.4 million. Since most of the Company's
international operating expenses are also incurred in the same foreign
currencies in which the associated revenue is denominated, the net impact of
exchange rate fluctuations on net income is considerably less than the estimated
impact on revenue and is not significant.
25
GROSS PROFIT
SIX MONTHS ENDED JUNE 30,
---------------------------------------
2006 2005
------------------ ------------------
GROSS GROSS INCREASE %
AMOUNT MARGIN % AMOUNT MARGIN % (DECREASE) CHANGE
------- -------- ------- -------- ---------- ------
(In thousands, except percentages)
GROSS PROFIT
IT outsourcing services.. $ 9,619 24.4% $ 9,441 25.0% $ 178 1.9%
Asset impairment loss.... (580) -- -- -- (580) --
------- ------- -------
Total IT outsourcing.. 9,039 22.9% 9,441 25.0% (402) (4.3)%
Government technology
services.............. 6,723 28.6% 8,592 29.4% (1,869) (21.8)%
IT consulting and systems
integration........... 3,025 22.5% 2,626 20.3% 399 15.2%
Technical staffing....... 783 17.9% 942 22.8% (159) (16.9)%
Learning services........ 200 32.4% 108 31.7% 92 85.2%
------- ------- -------
TOTAL GROSS PROFIT.......... $19,770 24.3% $21,709 25.7% $(1,939) (8.9)%
======= ======= =======
Consistent with revenue, the majority of the overall decline in gross profit of
8.9% to $19.8 million for the six months ended June 30, 2006, from $21.7 million
for the comparable period in 2005, is attributable to the conclusion of certain
contracts in our Government Technology Services segment, the wind-down of
certain systems implementation and training projects in our IT Consulting and
Systems Integration segment that drove significant growth in this segment in
2005, and a pre-tax charge to cost of revenue for the net carrying value of
assets of $580,000 related to the Company's decision to discontinue using
certain software. These decreases were partially offset by gross profit growth
from our acquisition of Akela and our IT Outsourcing Services segment from new
customer accounts.
IT Outsourcing Services
Gross profit from our IT Outsourcing Services segment decreased 4.3% to $9.0
million for the six months ended June 30, 2006, from $9.4 million for the
comparable period in 2005. Gross margin from IT outsourcing services decreased
to 22.9% for the six months ended June 30, 2006, from 25.0% for the comparable
period in 2005. For the six months ended June 30, 2006, gross profit includes an
asset impairment loss for the net carrying value of assets of $580,000 related
to the Company's decision to discontinue using certain software. Excluding the
asset impairment loss, gross margin decreased to 24.4% for the six months ended
June 30, 2006, from 25.0% for the comparable period in 2005. This segment
experienced an increase in gross profit and gross margin related to our shared
services offering for our pharmaceutical clients where we experienced 26.5%
revenue growth and were successful in transitioning the majority of the service
delivery for these customers to our Romanian facility. However, the improvement
in gross margin was partially offset by delayed profitability on two, major, new
customer accounts, the largest of which was launched in three phases over the
past eight months. We are committed to delivering world-class service. For that
reason, we have been careful to staff these new customer accounts with
additional resources during their initial ramp-up. While this has delayed
profitability on these accounts, we believe it has proven our determination to
deliver quality customer results, on which long-term client relationships are
built. These accounts improved their performance from the first quarter and, as
our partnerships with these new customers grow and as our action plans are
executed, we expect continuing improvement in these accounts.
26
Government Technology Services
Gross profit from our Government Technology Services segment decreased 21.8% to
$6.7 million for the six months ended June 30, 2006, from $8.6 million for the
comparable period in 2005. Gross margin from Government Technology Services
decreased to 28.6% for the six months ended June 30, 2006, from 29.4% for the
comparable period in 2005. The decrease in gross profit and gross margin is
primarily due to the conclusion of certain contracts that provided additional
revenue of $3.6 million for the six months ended June 30, as compared to the
same period in 2006, and the completion of other projects at other customers.
The inclusion of resale items for both periods had the effect of reducing gross
margin by approximately 60 basis points for the six months ended June 30, 2006
and 2005.
IT Consulting and Systems Integration
Gross profit from our IT Consulting and Systems Integration segment increased
15.2% to $3.0 million for the six months ended June 30, 2006, from $2.6 million
for the comparable period in 2005. Gross margin from IT Consulting and Systems
Integration increased to 22.5% for the six months ended June 30, 2006, from
20.3% for the comparable period in 2005. The increase in gross profit and gross
margin was primarily due to our acquisition of Akela on October 3, 2005.
Excluding the gross profit contributed by Akela, gross profit decreased 3.0% to
$2.5 million for the six months ended June 30, 2006, from the comparable period
in 2005, and gross margin increased to 20.9% from 20.3%. The decrease in gross
profit was primarily due to the wind-down of certain systems implementation and
training projects during the second quarter of 2006 in the hospitality industry
that drove significant growth in this segment in 2005, and we experienced a
temporary decline in gross profit and gross margin in the second quarter of 2006
from our on-going project installing personal computers at Ford subcontracted
through Dell Inc.
OPERATING EXPENSES AND OTHER
SIX MONTHS ENDED JUNE 30,
------------------------- INCREASE %
2006 2005 (DECREASE) CHANGE
------- ------- ---------- ------
(In thousands, except percentages)
OPERATING EXPENSES AND OTHER
Selling, general, and administrative expense .. $19,601 $17,162 $ 2,439 14.2%
Net interest income ........................... $ 320 $ 163 $ 157 96.3%
Foreign currency transaction gain (loss) ...... $ (98) $ 97 $ (195) (201)%
Income tax provision .......................... $ 129 $ 1,535 $(1,406) (91.6)%
Selling, general, and administrative ("SG&A") expense increased 14.2% to $19.6
million, or 24.1% of total revenue, for the six months ended June 30, 2006, from
$17.2 million, or 20.4% of total revenue, for the comparable period in 2005. The
increase in SG&A expense can be primarily attributed to: (1) legal and
professional fees associated with responding to a complaint filed by a
shareholder, Costa Brava, seeking to inspect certain books and records of the
Company, matters relating to the proxy contest initiated by Costa Brava related
to the election of the Company's Board of Directors, and the Settlement
Agreement with respect to these matters ($1.3 million), (2) the placement of the
Company's new president and chief executive officer ($110,000), (3) the
acquisition of Akela ($553,000), (4) stock-based compensation expense related to
the Company's adoption of Statement of Financial Accounting Standards ("SFAS")
No. 123R, "Share-Based Payment," primarily attributable to stock options issued
in the first quarter of 2006 ($203,000), and (5) an increase in sales and
marketing expenses as we continue to make prudent investments in our sales and
marketing function globally ($253,000). These increases were partially offset
by: (1) a decrease in costs associated with the Company's ongoing compliance
with the SOX Act ($400,000) and a shift in these costs from the first half of
the year to the second half of the year when compared to 2005, and (2) a decline
in incentive compensation expense ($160,000) as a result of the decline in the
Company's revenue and operating income from 2005.
27
On May 4, 2006, the Company and Costa Brava entered into a settlement agreement
(the "Settlement"). Under the terms of the Settlement, Costa Brava withdrew its
proposal to nominate its own slate of directors for the Company and dismissed
the complaint with prejudice upon the election of directors at the Company's
Annual Shareholders' Meeting on June 14, 2006. Further, under the Settlement,
the Company agreed to reimburse Costa Brava for its documented expenses incurred
in connection with Costa Brava's efforts to replace the Company's current Board
and its efforts to obtain certain books and records of the Company. The Company
recorded a charge of $600,000 in six months ended June 30, 2006, for the
estimated amount of expense reimbursement, which is included in the $1.3 million
of legal and professional fees noted in the preceding paragraph.
Net interest income increased to $320,000 for the six months ended June 30,
2006, from $163,000 for the comparable period in 2005, as a result of higher
average rates of return on invested cash equivalents and less average
outstanding long-term debt.
For the six months ended June 30, 2006, the consolidated effective tax rate of
33.0% differs from the statutory tax rate in the United States of 34% primarily
due to the tax benefit of tax rates in certain foreign countries that are lower
than 34% and utilization of foreign tax loss carryforwards. For the six months
ended June 30, 2005, the consolidated effective tax rate of 31.9% differs from
the statutory tax rate of 34% primarily due to the tax benefit of tax rates in
certain foreign countries that are lower than 34% and the tax benefit of certain
permanent deductions.
IMPACT OF BUSINESS WITH MAJOR CLIENTS
We conduct business under multiple contracts with various entities within the
Ford organization and with various agencies and departments of the United States
Government. For the quarter ended June 30, 2006 and 2005, Ford accounted for
27.2% and 27.5%, respectively, of the Company's total revenue, and the United
States Government accounted for 25.1% and 29.6%, respectively, of the Company's
total revenue. For the six months ended June 30, 2006 and 2005, Ford accounted
for 27.0% and 27.9%, respectively, of the Company's total revenue, and the
United States Government accounted for 25.3% and 29.8%, respectively, of the
Company's total revenue. No single agency or department of the United States
Government comprised 10% or greater of the Company's total revenue for any
period presented.
Ford Motor Company
Our business with Ford consists of help desk and desk side services, technical
staffing, network management, and a specific project installing personal
computers subcontracted through Dell Inc. Revenue generated through our business
with Ford decreased to $22.0 million for the six months ended June 30, 2006,
from $23.5 million for the comparable period in 2005.
At present, Ford is under significant financial pressures, which is reflected in
Ford's long-term debt rating being lowered to "below investment grade" status.
As Ford implements its publicly-announced restructuring plan, we expect to see a
reduction in the number of seats that we support absent further expansion into
new areas of Ford. The number of seats supported will be determined bi-annually
on December 1 and June 1 of each year. If certain contractual conditions are
met, Ford and TechTeam will have the right during each six month period to
request one out-of-cycle seat adjustment on a prospective basis. Although we are
unable to predict the pace of Ford's restructuring plan, we estimate that our
total revenue from Ford will decline approximately 3-5% in 2006 from 2005.
28
We anticipate that, due to Ford's financial condition, Ford will continue to
seek price concessions on services that we perform on their behalf outside of
the Global SPOC Program. However, we do not believe that Ford's financial
condition will otherwise affect our business with Ford or the collectibility of
our accounts receivable from Ford. However, any loss of (or failure to retain a
significant amount of business with) Ford or bankruptcy filing by Ford would
have a material adverse effect on the Company's operating results and liquidity.
United States Government
The U.S. Government's fiscal year ends on September 30 of each year. It is not
uncommon for government agencies to award extra tasks or complete other contract
actions in the weeks before the end of the fiscal year in order to avoid the
loss of unexpended fiscal year funds. Moreover, in years when the U.S.
Government does not complete its budget process before the end of its fiscal
year, government operations typically are funded pursuant to a "continuing
resolution" that authorizes agencies of the government to continue to operate,
but traditionally does not authorize new spending initiatives. When the
government operates pursuant to a continuing resolution, delays can occur in
procurement of products and services, and such delays can affect the Company's
revenue, profit, and cash flow during the period of delay.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents were $28.3 million at June 30, 2006, as compared to
$34.8 million at December 31, 2005. During the six months ended June 30, 2006,
cash and cash equivalents decreased $6.5 million primarily due to $2.5 million
in net cash used in operating activities, $2.2 million in cash used for capital
expenditures, $3.9 million in long-term debt repayments, and $468,000 in cash
paid for past acquisitions. The uses of cash were partially offset by $1.9
million in cash proceeds from the exercise of stock options. The negative cash
flow from operating activities of $2.5 million for the six months ended June 30,
2006 was primarily due to a significant decrease in current liabilities of $2.8
million and a temporary increase in accounts receivable and prepaid expenses of
$3.4 million, which were partially offset by income prior to non-cash charges
for depreciation and amortization.
Under various task order contracts with the United States Department of Homeland
Security ("DHS"), we serve as the prime contractor and Electronic Data Systems
Corporation ("EDS") serves as the subcontractor. EDS performs in excess of 95%
of the work under the contract and creates the invoices, which the Company
forwards to the DHS. Under the subcontract agreement with EDS, we do not pay
EDS' invoices until Sytel, a subsidiary within our Government Technology
Services business segment, receives payment from the DHS. Furthermore, we record
revenue under this contract on a net basis whereby we only record revenue for
the portion of the work that Sytel performs under the contract along with an
administrative fee related to revenue earned by EDS. As a result, our accounts
receivable include the gross amount billed to DHS by Sytel, including EDS'
invoice, and our accounts payable include the amounts billed by EDS, but our
recorded revenue does not include the amounts billed to Sytel by EDS. This has
negatively affected our calculation of days sales outstanding.
Long-term cash requirements, other than for normal operating expenses, are
anticipated for the continued expansion in Europe, enhancements of existing
technologies, additional consideration that is payable to the selling
shareholders Akela and TechTeam A.N.E. NV/SA if specific performance conditions
and operating targets are met, possible global expansion activities, the
possible payment of Company dividends, possible repurchases of our common stock,
and the possible acquisition of businesses complementary to the Company's
existing businesses. We believe that positive cash flows from operations,
together with existing cash balances, will continue to be sufficient to meet our
ongoing requirements for the next twelve months and foreseeable future. We have
historically not paid dividends.
29
NEW ACCOUNTING PRONOUNCEMENTS
Effective January 1, 2006, the Company adopted the provisions of SFAS 123R,
"Share-Based Payment," which requires companies to measure and recognize
compensation expense for all share-based payment awards to employees and
directors based on estimated fair values of all awards. SFAS 123R supersedes the
Company's previous accounting methodology using the intrinsic value method under
Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock
Issued to Employees," and related interpretations. Under the intrinsic value
method, no share-based compensation expense had been recognized in the Company's
consolidated statements of operations for stock option awards with an exercise
price equal to the fair value of the underlying stock on the date of grant.
The Company adopted SFAS 123R using the modified prospective transition method.
Under this transition method, stock-based compensation expense recognized after
the effective date includes: (1) compensation expense for all share-based awards
granted prior to, but not yet vested, as of December 31, 2005, based on the
grant-date fair value estimated in accordance with the original provisions of
SFAS 123, and (2) compensation cost for all share-based awards granted
subsequent to January 1, 2006, based on the grant-date fair value estimated in
accordance with the provisions of SFAS 123R. In accordance with the modified
prospective transition method, the Company's consolidated financial statements
from prior periods have not been restated and do not include the impact of SFAS
123R.
The company recorded pre-tax and after-tax amounts of $39,000 and $26,000,
respectively, for share-based compensation expense during the three months ended
June 30, 2006, as a result of adopting SFAS 123R. The Company recorded pre-tax
and after-tax amounts of $203,000 and $134,000, respectively, for share-based
compensation expense during the six months ended June 30, 2006, as a result of
adopting SFAS 123R.
In July 2006, the FASB issued FASB Interpretation No. 48, "Accounting for
Uncertainty in Income Taxes" ("FIN 48"). FIN 48 prescribes a recognition
threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken in a tax return. FIN 48 also provides
guidance regarding subsequent reversal of a tax position, balance sheet
classification, accounting in interim periods, disclosure, and transition. FIN
48 is effective for fiscal years beginning after December 15, 2006. The Company
has not completed its analysis of the potential impact of FIN 48 on the
Company's financial position or results of operations.
MATERIAL COMMITMENTS
There have been no significant changes in our material commitments disclosed in
"Item 7 -- Management's Discussion and Analysis of Financial Condition and
Results of Operations" of our Annual Report on Form 10-K for the year ended
December 31, 2005.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
There have been no changes in the selection and application of critical
accounting policies and estimates disclosed in "Item 7 -- Management's
Discussion and Analysis of Financial Condition and Results of Operations" of our
Annual Report on Form 10-K for the year ended December 31, 2005, except for the
addition of the following item:
STOCK-BASED COMPENSATION:
The Company records compensation expense for employee stock options based on the
estimated fair value of the options on the date of grant using the Black-Scholes
option-pricing model. The Company uses historical data among other factors to
estimate the expected price volatility, the expected option term, and the
expected forfeiture rate. The risk-free rate is based on the U.S. Treasury yield
curve in effect at the date of grant for the expected term of the option.
30
The following assumptions were used to estimate the fair value of options
granted during the six months ended June 30, 2006 and 2005, using the
Black-Scholes option-pricing model:
SIX MONTHS ENDED JUNE 30,
-------------------------
2006 2005
---------- ----------
Expected dividend yield....... 0% 0%
Weighted average volatility... 42% 43%
Risk free interest rate....... 4.4% - 4.7% 3.3% - 3.8%
Expected term (in years)...... 3.0 3.1
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options, which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions, including the expected stock price volatility. Because
our employee stock options have characteristics significantly different from
those of traded options, and because changes in the assumptions can materially
affect the fair value estimate, in management's opinion, the existing models do
not necessarily provide a reliable single measure of the fair value of the
Company's employee stock-based compensation.
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in reported market risks disclosed in "Item
7A -- Quantitative and Qualitative Disclosures About Market Risk" of our Annual
Report on Form 10-K for the year ended December 31, 2005.
ITEM 4 -- CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
As of June 30, 2006, our management, with the participation of our chief
executive officer and chief financial officer, evaluated the effectiveness of
the design and operation of our disclosure controls and procedures (as defined
in Rules 13a-15(e) and 15d-15(e) under the Exchange Act). Based on this
evaluation, our chief executive officer and chief financial officer concluded
that, as of June 30, 2006, our disclosure controls and procedures were (1)
designed to ensure that material information relating to us, including our
consolidated subsidiaries, is made known to our chief executive officer and
chief financial officer by others within those entities, particularly during the
period in which this report was being prepared and (2) effective, in that they
provide reasonable assurance that information required to be disclosed by us in
the reports that we file or submit under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the U.S.
Securities and Exchange Commission's rules and forms.
It should be noted that any system of controls, however well designed and
operated, can provide only reasonable, and not absolute, assurance that the
objectives of the system will be met. In addition, the design of any control
system is based in part upon certain assumptions about the likelihood of certain
events. Because of these and other inherent limitations of control systems,
there is only reasonable assurance that our controls will succeed in achieving
their goals under all potential future conditions.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
No changes in our internal control over financial reporting (as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarter
ended June 30, 2006, that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
31
PART II -- OTHER INFORMATION
ITEM 1 -- LEGAL PROCEEDINGS
On July 21, 2006, the Company was notified by the U.S. Department of Labor
Occupational Safety and Health Agency that its former Vice President, Chief
Financial Officer, and Treasurer, David W. Morgan, had filed a complaint against
the Company alleging discriminatory employment practices in violation of Section
806 of the Corporate and Criminal Fraud Accountability Act of 2002, Title VIII
of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1514A. In his complaint,
Mr. Morgan asserts that he resigned from employment with the Company due to
actions taken against him as a result of certain alleged protected activities.
Mr. Morgan seeks unspecified economic and special damages. The Company believes
Mr. Morgan's assertions are without merit, and it intends to vigorously defend
itself against this complaint.
Separately, Mr. Morgan has made a demand on the Company seeking compensation for
an allegedly wrongful termination of his employment with the company He also
demanded retraction of certain allegedly defamatory statements published by the
Company, and payment of unspecified damages as result of these statements having
been made.
As previously reported in the Company's Quarterly Report on Form 10-Q for the
first quarter of 2006, the Company terminated the Company's employment contract
with William F. Coyro, Jr., its former President and Chief Executive Officer.
Dr. Coyro has notified the Company that he is seeking damages resulting from his
alleged wrongful termination and alleged defamatory statements published by the
Company.
No amounts have been recorded in the accompanying financial statements for any
potential liability to Dr. Coyro or Mr. Morgan as the Company believes their
claims are without merit and that any potential liability cannot be reasonably
estimated at this time.
In addition to the above matters, from time to time the Company is involved in
various routine litigation matters arising in the ordinary course of its
business. None of these matters, individually or in the aggregate, currently is
material to the Company.
ITEM 1A -- RISK FACTORS
There have been no changes in the risk factors disclosed in "Item 1A -- Risk
Factors" of our Annual Report on Form 10-K for the year ended December 31, 2005,
except that the following risk factor described as "We may become engaged in a
proxy contest relating to the election of our Board of Directors, which contest
could adversely affect our business," as disclosed in our Annual Report on Form
10-K, is no longer applicable as a result of the Company executing a settlement
agreement with a shareholder.
32
ITEM 2 -- UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
There were no sales of unregistered equity securities of the Company during the
three months ended June 30, 2006.
The following table sets forth the information with respect to purchases made by
the Company of shares of its common stock during the second quarter of 2006:
TOTAL NUMBER OF MAXIMUM NUMBER OF
TOTAL NUMBER AVERAGE SHARES PURCHASED AS SHARES THAT MAY YET
OF SHARES PRICE PAID PART OF PUBLICLY BE PURCHASED UNDER
PERIOD PURCHASED PER SHARE ANNOUNCED PROGRAMS THE PROGRAMS
------ ------------ ---------- ------------------- --------------------
April 1, 2006 to April 30, 2006 6,017 (a) $10.05 -- --
May 1, 2006 to May 31, 2006 5,958 (a) $10.25 -- --
June 1, 2006 to June 30, 2006 6,613 (a) $ 9.39 -- --
(a) All purchases of shares were made for the purpose of contributing the
purchased shares to the TechTeam Global Retirement Savings Plan (one of the
Company's 401(k) plans) for employer matching contributions. The purchases
were not made pursuant to publicly announced plans and were made in the
open market.
ITEM 4 -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its Annual Meeting of Shareholders on June 14, 2006. The
holders of 6,645,965 shares of the Company's common stock were present in person
or by proxy, representing attendance by at least 66% of the outstanding shares
eligible to vote. The following is a summary of the matters voted on at that
meeting.
(a) The following persons were elected to the Company's Board of
Directors. The number of shares cast favor and withheld were as
follows:
Name For Withheld
---- --------- --------
William C. Brown 6,635,671 10,294
Kent Heyman 6,639,394 6,571
John P. Jumper 6,637,372 8,593
James A. Lynch 6,605,394 40,571
Alok Mohan 6,605,394 40,571
James D. Roche 6,639,372 6,593
Andrew R. Siegel 6,603,088 42,877
Richard R. Widgren 6,639,372 6,593
(b) Ratification of Ernst & Young LLP as the Company's independent
registered public accountant:
For Against
--- -------
6,639,836 929
33
ITEM 6 -- EXHIBITS
The following exhibits are filed as part of this report on Form 10-Q:
31.1 Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934,
as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934,
as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
34
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.
TechTeam Global, Inc.
(Registrant)
Date: August 9, 2006 By: /s/ William C. Brown
------------------------------------
William C. Brown
President and Chief Executive
Officer (Principal Executive
Officer)
By: /s/ Marc J. Lichtman
------------------------------------
Marc J. Lichtman
Vice President, Chief Financial
Officer, and Treasurer (Principal
Financial Officer)
35
Exhibit Index
Exhibit No. Description
----------- -----------
31.1 Certification Pursuant to Rule 13a-14(a) of the Securities
Exchange Act of 1934, as Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification Pursuant to Rule 13a-14(a) of the Securities
Exchange Act of 1934, as Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.