UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

FORM 10-K

 

Commission File Number 001-31451

 

BEARINGPOINT, INC.

(Exact name of Registrant as specified in its charter)

 

(703) 747-3000

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

Securities registered pursuant to Section 12(g) of the Act: None

 

 

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  YES o  NO þ

 

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  YES o  NO þ

 

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 þ  NO o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  þ

 

Indicated by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act).  YES o  NO þ

 

As of June 30, 2007, the aggregate market value of the voting stock held by non-affiliates of the Registrant, based upon the closing price of such stock on the New York Stock Exchange on June 29, 2007, was approximately $1.5 billion.

 

The number of shares of common stock of the Registrant outstanding as of February 1, 2008 was 215,220,077.

 

 

TABLE OF CONTENTS

 

 

FORWARD-LOOKING STATEMENTS

 

Some of the statements in this Annual Report on Form 10-K (this “Annual Report”) constitute “forward-looking statements” within the meaning of the United States Private Securities Litigation Reform Act of 1995. These statements relate to our operations and are based on our current expectations, estimates and projections. Words such as “may,” “will,” “could,” “would,” “should,” “anticipate,” “predict,” “potential,” “continue,” “expects,” “intends,” “plans,” “projects,” “believes,” “estimates,” “goals,” “in our view” and similar expressions are used to identify these forward-looking statements. The forward-looking statements contained in this Annual Report include statements about our internal control over financial reporting, our results of operation and our financial condition. Forward-looking statements are only predictions and as such, are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. Forward-looking statements are based upon assumptions as to future events or our future financial performance that may not prove to be accurate. Actual outcomes and results may differ materially from what is expressed or forecast in these forward-looking statements. The reasons for these differences include changes that occur in our continually changing business environment and the risk factors enumerated in Item 1A, “Risk Factors.” As a result, these statements speak only as of the date they were made, and we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

AVAILABLE INFORMATION

 

We were incorporated as a business corporation under the laws of the State of Delaware in 1999. Our principal offices are located at 1676 International Drive, McLean, Virginia 22102. Our main telephone number is (703) 747-3000.

 

Our website address is www.bearingpoint.com. Copies of our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, as well as any amendments to those reports, are available free of charge through our website as soon as reasonably practicable after they are electronically filed with or furnished to the Securities and Exchange Commission (the “SEC”). Information contained or referenced on our website is not incorporated by reference into and does not form a part of this Annual Report.

 

You may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site (http://www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

 

In this Annual Report, we use the terms “BearingPoint,” “we,” “the Company,” “our Company,” “our” and “us” to refer to BearingPoint, Inc. and its subsidiaries. All references to “years,” unless otherwise noted, refer to our twelve-month fiscal year.

 

 

General

 

BearingPoint, Inc. is one of the world’s leading providers of management and technology consulting services to Forbes Global 2000 companies as well as government organizations. Our core services, which include management consulting, technology solutions, application services and managed services, are designed to help our clients generate revenue, increase cost-effectiveness, manage regulatory compliance, integrate

information and transition to “next-generation” technology. We believe we differentiate our services from others through our results, approach and people. Our collaborative and flexible approach, including our passionate and dedicated people who bring both deep management and technology experience to bear on solving our clients’ issues, is well recognized for producing innovative and effective solutions.

 

In North America, we deliver consulting services through our Public Services, Commercial Services and Financial Services industry groups (our “North American Industry Groups”), which provide significant industry-specific knowledge and service offerings. Outside of North America, we are organized on a geographic basis — Europe, the Middle East and Africa (“EMEA”), the Asia Pacific region and Latin America (including Mexico). For a discussion of risks attendant to our international operations, see the discussion in Item 1A, “Risk Factors — Risks Related to Our Business.”

 

For more information about our operating segments, see “— North American Industry Groups” and “— International Operations,” Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operation — Segments,” and Note 18, “Segment Information,” of the Notes to Consolidated Financial Statements.

 

Strategy

 

We want to be recognized as the world leader in management and technology consulting, admired for our passion and respected for our ability to solve our clients’ most important challenges. We recognize that in 2008, we must show significant progress toward becoming profitable and improving our cash flow. To achieve these objectives, we are organizing our business priorities for 2008 around three overarching strategies:

 

 

 

 

We believe that providing a pay-for-performance culture that is communicated both clearly and consistently to our employees will enhance their understanding of how to succeed within our company. In 2008, we will strive to bring more clarity and consistency to our bonus and equity programs to effectively provide proper incentives to motivate and reward our employees for their contributions to the success of our business.

 

We are committed to reinforcing a culture consistent with our values and improving the quality of our employees’ professional lives, and, to do so, we will seek their feedback more frequently and systematically.

 

 

In addition, we will continue efforts to align our “people pyramid,” further reducing the number of managing directors and senior managers, while increasing the number of analysts and consultants to lower our costs of service.

 

For more information regarding the business priorities we will pursue in 2008 to implement these strategies, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operation — Overview — Principal Business Priorities for 2008 and Beyond.”

 

North American Industry Groups

 

Our North American operations are managed on an industry basis, enabling us to capitalize on our significant industry-specific knowledge. This focus enhances our ability to monitor global trends and observe best practice behavior, to design specialized service offerings relevant to the marketplaces in which our clients operate, and to build sustainable solutions. All of our industry groups provide management consulting, technology solutions, application services and managed services to their respective clients.

 

Our three North American Industry Groups are:

 

 

International Operations

 

Our operations outside of North America are organized on a geographic basis, with alignment to our three North American Industry Groups — enabling consistency in our global strategy and execution.

 

After extensive analysis and discussion, we have concluded that over the long term, we can create more value for our shareholders, our customers and our people by further integrating our businesses and operating model, not further distancing them. Our management team feels strongly that our unique global footprint

provides us with opportunities to increase profitability by leveraging our global delivery model for multi-national clients and delivering best-in-class government offerings and solutions developed in our U.S. Federal, state, and local markets to governments around the world.

 

Our three geographic regions are:

 

 

Our Joint Marketing Relationships

 

As of December 31, 2007, our alliance program had approximately 40 relationships with key technology providers that support and complement our service offerings. Through this program, we have created joint marketing relationships to enhance our ability to provide our clients with high value services. Those relationships typically entail some combination of commitments regarding joint marketing, sales collaboration, training and service offering development.

 

Our most significant joint marketing and product development technology relationships are with Oracle Corporation, Microsoft Corporation, SAP AG, Hewlett-Packard Company and IBM Corporation. We work together to develop comprehensive solutions to common business issues, offer the expertise required to deliver those solutions, develop new products, build our talent capabilities, capitalize on joint marketing opportunities and remain at the forefront of technology advances.

 

Competition

 

We operate in a highly competitive and rapidly changing market and compete with a variety of organizations that sell services similar to those we offer. Our competitors include specialized consulting firms, systems consulting and implementation firms, former “Big 4” and other large accounting and consulting firms, application software firms providing implementation and modification services, service and consulting groups of computer equipment companies, outsourcing companies, systems integration companies, aerospace and defense contractors and general management consulting firms. We also compete with our clients’ internal resources. Some of our competitors have significantly greater financial and marketing resources, name recognition and market share than we do.

 

In 2008, we intend to focus our skills and resources to best capitalize on our competitive advantages, selectively choosing only those offerings, solutions and markets where we can effectively differentiate ourselves from our competition. We feel that deepening our relationships with key, existing clients and through repeat marketing of developed, successful industry offerings and solutions, we will be better positioned to achieve higher margins.

 

We believe that the principal competitive factors in the markets in which we operate include scope of services, service delivery approach, technical and industry expertise, value added, availability of appropriate talent and resources, global reach, pricing and relationships.

Intellectual Property

 

Our success has resulted in part from our methodologies and other proprietary intellectual property rights. We rely upon a combination of nondisclosure and other contractual arrangements, non-solicitation agreements, trade secrets, copyright and trademark laws to protect our proprietary rights and the rights of third parties from whom we license intellectual property. We also enter into confidentiality and intellectual property agreements with our employees that limit the distribution of proprietary information. We currently have only a limited ability to protect our important intellectual property rights.

 

We selectively pursue efforts to capture, protect and commercialize BearingPoint proprietary information. We are striving to identify potentially reusable solutions or other intellectual property sooner in the design process and to take measures that will safeguard our proprietary rights and commercialization opportunities. We anticipate certain of these initiatives will add value to particular client and market categories, and increase our earnings from proprietary assets. Our solution suites, such as our Risk, Compliance and Security Solution Suite, are an example of these efforts.

 

Customer Dependence

 

During 2007 and 2006, our revenue from the U.S. Federal government, inclusive of government sponsored enterprises, was $981.6 million and $983.1 million, respectively, representing 28.4% and 28.5% of our total revenue, respectively. For 2007 and 2006, this included approximately $378.7 million and $389.8 million of revenue from the U.S. Department of Defense, respectively, representing approximately 11.0% and 11.3% of our total revenue for 2007 and 2006, respectively. A loss of all or a substantial portion of our contracts with the U.S. Federal government would have a material adverse effect on our business and results of operation. While most of our government agency clients have the ability to unilaterally terminate their contracts, our relationships are seldom with political appointees, and we have not historically experienced a loss of U.S. Federal government business with a change in administration. For more information regarding government proceedings and risks associated with U.S. government contracts, see Item 1A, “Risk Factors,” Item 3, “Legal Proceedings,” and Note 11, “Commitments and Contingencies,” of the Notes to Consolidated Financial Statements.

 

Employees

 

As of December 31, 2007, we had approximately 17,100 full-time employees, including approximately 14,400 billable professionals.

 

As management and technology consultants, our future success largely depends upon our ability to attract, motivate and retain world-class talent, particularly professionals with the advanced information technology skills necessary to perform the services we offer. Our professionals possess significant industry experience, understand the latest technology and know how to apply it to solve our clients’ business challenges. We are committed to the long-term development of our employees and will continue to dedicate significant resources to making BearingPoint a great place to do great work. We strive to reinforce our employees’ commitment to our clients, culture and values through a comprehensive performance management system, innovative training programs, and a competitive compensation philosophy that rewards individual performance and teamwork.

 

For 2007, our voluntary annualized attrition rate was 24.7%, a slight improvement over our attrition rate of 25.6% in 2006. Reducing attrition remains a top priority, and we have taken steps to enhance our ability to attract and retain our employees. For additional information regarding these efforts, see “Management’s Discussion and Analysis of Financial Condition and Results of Operation — Principal Business Priorities for 2008 and Beyond — Attract, Develop and Retain a World-Class Employee Base.”

 

Risks that Relate to Our Business

 

Our business may be adversely impacted as a result of changes in demand, both globally and in individual market segments, for our consulting and systems integration services.

 

Our business tends to lag behind economic cycles; consequently, we may experience rapid decreases in demand at the onset of significant economic downturns while the benefits of economic recovery may take longer to realize. Economic and political uncertainties adversely impact our clients’ demand for our services. During an economic downturn, our clients and potential clients often cancel, reduce or defer existing contracts and delay entering into new engagements, thereby reducing new contract bookings. In general, companies also reduce the amount of spending on information technology products and services during difficult economic times, resulting in limited implementations of new technology and smaller engagements.

 

Our contracts funded by U.S. Federal government agencies, inclusive of government sponsored enterprises, accounted for approximately 28.4% of our revenue in 2007. We depend particularly on contracts funded by clients within the Department of Defense, which accounted for approximately 11.0% of our revenue in 2007. We believe that our U.S. Federal government contracts will continue to be a source of a significant amount of our revenue for the foreseeable future. Our business could be materially harmed if the U.S. Federal government reduces its spending or reduces the budgets of its departments or agencies. Reduced budget and other political and regulatory factors may cause these departments and agencies to reduce their purchases under, or exercise their rights to terminate, existing contracts, or may result in fewer or smaller new contracts to be awarded to us.

 

Our operating results will suffer if we are not able to maintain our billing and utilization rates or control our costs.

 

Our operating results are largely a function of the rates we are able to charge for our services and the utilization rates, or chargeability, of our professionals. Accordingly, if we are not able to maintain the rates we charge for our services or an appropriate utilization rate for our professionals, or if we cannot manage our cost structure, our operating results will be negatively impacted, we will not be able to sustain our margins and our ability to generate profits will suffer.

 

Factors affecting the rates we are able to charge for our services include:

 

 

Factors affecting our utilization rates include:

 

 

Our operating results are also a function of our ability to control our costs. If we are unable to control these costs, such as costs associated with the production of financial statements, settlement of lawsuits or management of a significantly larger and more diverse workforce, our results of operation could be materially and adversely affected.

 

If we are unable to timely and properly implement and operate our new financial reporting system, we may be unable to timely file our SEC periodic reports or conclude that our internal control over financial reporting is effective, either of which could have a material adverse effect on our business, financial condition or results of operation.

 

We are currently in the process of replacing our North American financial reporting systems. We expect that once the new North American financial reporting system has been implemented, it will help us to maintain the timely filing of our SEC periodic reports and provide the Company with current and timely financial information and reduce our selling, general and administrative (“SG&A”) expenses. The implementation of a new financial system is complex and subject to many risks, including our ability to manage and implement a financial system of this scope and magnitude. See “— Risks that Relate to our Failure to Timely File Periodic Reports with the SEC and our Internal Control over Financial Reporting” and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operation — Principal Business Priorities for 2008 and Beyond — Drive Operational Excellence — Replace our North American Financial Reporting Systems.”

 

For example, in 2005 our Audit Committee determined that the implementation of our current North American financial systems was attempted without adequate testing and training or sufficient backup capability, which contributed to:

 

 

For so long as we are unable to implement and operate our new North American financial system, we will continue to experience a higher than normal probability of the occurrence of these types of risks.

 

We continue to incur SG&A expenses as a percentage of revenue at levels significantly higher than those of our competitors. If we are unable to significantly reduce SG&A expenses as a percentage of revenue over the near term, our ability to achieve our goals in net income and profitability will remain in jeopardy.

 

In recent years we have experienced exceptionally high levels of SG&A expenses as a percentage of revenue, primarily as a result of continuing issues related to our North American financial reporting systems and our internal controls, higher than average costs associated with hiring and retaining our employees and other assorted costs, including legal expenses associated with various disputes and litigation. During 2007, we incurred external costs of approximately $83.5 million related to the preparation of our financial statements, our auditors’ review and audit of our financial statements and the testing of internal controls, compared with approximately $128.2 million in 2006. In addition, we also currently expect to incur approximately $33.5 million in costs in 2008 related to the implementation of our new North American financial reporting system, of which $8.9 million is expected to be expensed and $24.6 million is expected to be capitalized, compared with approximately $25.3 million of such costs in 2007, of which $10.2 million was expensed and $15.1 million was capitalized. It is likely that higher than normal SG&A expenses will continue through 2008 and 2009 as we seek to achieve our objectives of timely preparing and filing our financial statements and SEC periodic reports, remediating material weaknesses in our internal control over financial reporting and completing the replacement of our North American financial reporting systems.

Our ability to reduce future SG&A expenses is dependent, among other things, on:

 

 

If we are unable to achieve these objectives, offset these costs through other expense reductions, or if we encounter additional difficulties or setbacks in achieving these objectives, our SG&A expenses could significantly exceed current expected levels, and, consequently, materially and adversely affect our competitive position, financial condition, results of operation and cash flows.

 

The systems integration consulting markets are highly competitive, and we may not be able to compete effectively if we are not able to maintain our billing rates or control our costs related to these engagements.

 

Systems integration consulting constitutes a significant part of our business. Historically, these markets have included a large number of participants and have been highly competitive. Recent increases in the number and availability of competing global delivery alternatives for systems integration work create ever increasing pricing pressures in these markets. We frequently compete with companies that have greater global delivery capabilities and alternatives, financial resources, name recognition and market share than we do. If we are unable to maintain our billing rates through delivering unique and differentiated systems integration solutions and control our costs through proper management of our workforce, global delivery centers and other available resources, we may lose the ability to compete effectively for this significant portion of our business.

 

Contracting with the U.S. Federal government is inherently risky and exposes us to risks that may materially and adversely affect our business.

 

We depend on contracts with U.S. Federal government agencies, particularly with the Department of Defense, for a significant portion of our revenue and consequently, we are exposed to various risks inherent in the government contracting process, including the following:

 

 

 

 

 

The impact of any of these occurrences or conditions could affect not only our business with the agency or department involved, but also other agencies and departments within the U.S. Federal government. Depending on the size of the project or the magnitude of the budget reduction, potential costs, penalties or negative publicity involved, any of these occurrences or conditions could have a material adverse effect on our business or our results of operation.

 

Our ability to attract, retain and motivate our managing directors and other key employees is critical to the success of our business. We continue to experience sustained, higher-than-industry average levels of voluntary turnover among our workforce, which has impacted our ability to grow our business.

 

Our success depends largely on our general ability to attract, develop, motivate and retain highly skilled professionals. Competition for skilled personnel in the consulting and technology services business is intense.

 

The following additional attrition risks are unique to our business:

 

 

 

The continuing loss of significant numbers of our professionals or the inability to attract, hire, develop, train and retain additional skilled personnel for these or other reasons could have a serious negative effect on us, including our ability to obtain and successfully complete important engagements and thus maintain or increase our revenue.

 

Our contracts can be terminated by our clients with short notice, or our clients may cancel or delay projects.

 

Our clients typically retain us on a non-exclusive, engagement-by-engagement basis, rather than under exclusive long-term contracts. Most of our consulting engagements are less than twelve months in duration. Most of our contracts can be terminated by our clients upon short notice and without significant penalty. Large client projects involve multiple engagements or stages, and there are risks that a client may choose not to retain us for additional stages of a project or that a client will cancel or delay additional planned engagements. These terminations, cancellations or delays could result from factors unrelated to our work product or the progress of the project, but could be related to business or financial conditions of the client or the economy generally. When contracts are terminated, cancelled or delayed, we lose the associated revenue, and we may not be able to eliminate associated costs in a timely manner. Consequently, our operating results in subsequent periods may be adversely impacted.

 

If we are not able to keep up with rapid changes in technology or maintain strong relationships with software providers, our business could suffer.

 

Our success depends, in part, on our ability to develop service offerings that keep pace with rapid and continuing changes in technology, evolving industry standards and changing client preferences. Our success also depends on our ability to develop and implement ideas for the successful application of existing and new technologies. We may not be successful in addressing these developments on a timely basis, or our ideas may not be successful in the marketplace. Also, products and technologies developed by our competitors may make our services or product offerings less competitive or obsolete. Any of these circumstances could have a material adverse effect on our ability to obtain and successfully complete client engagements.

 

In addition, we generate a significant portion of our revenue from projects to implement software developed by others. Our future success in the software implementation business depends, in part, on the continuing viability of these companies, their ability to maintain market leadership and our ability to maintain a good relationship with these companies.

 

Loss of our joint marketing relationships could reduce our revenue and growth prospects.

 

Our most significant joint marketing relationships are with Oracle Corporation, Microsoft Corporation, SAP AG, Hewlett-Packard Company and IBM Corporation. These relationships enable us to increase revenue by providing us additional marketing exposure, expanding our sales coverage, increasing the training of our professionals and developing and co-branding service offerings that respond to customer demand. The loss of one or more of these relationships could adversely affect our business by terminating current joint marketing and product development efforts or otherwise decreasing our revenue and growth prospects. Because most of our significant joint marketing relationships are nonexclusive, if our competitors are more successful in, among other things, building leading-edge products and services, these entities may form closer or preferred arrangements with other consulting organizations, which could materially reduce our revenue.

We are not likely to be able to significantly grow our business through mergers and acquisitions in the near term.

 

We have had limited success in valuing and integrating acquisitions into our business. Given past experiences, the current competing demands for our capital resources and limitations contained in our senior secured credit facility, we are unlikely to grow our business through significant acquisitions. Our inability to do so may competitively disadvantage us or jeopardize our independence.

 

There will not be a consistent pattern in our financial results from quarter to quarter, which may result in increased volatility of our stock price.

 

Our quarterly revenue and profitability have varied in the past and are likely to vary significantly from quarter to quarter, making them difficult to predict. This may lead to volatility in our stock price. Factors that could cause variations in our quarterly financial results include:

 

 

Our performance may be negatively affected due to financial, regulatory and operational risks inherent in worldwide operations.

 

In 2007, approximately 36.0% of our revenue was attributable to activities outside North America. Our results of operation are affected by our ability to manage risks inherent in our doing business abroad. These risks include exchange rate fluctuation, regulatory concerns, terrorist activity, restrictions with respect to the movement of currency, access to highly skilled workers, political and economic stability, unauthorized and improper activities of employees and our ability to protect our intellectual property. Despite our best efforts, we may not be in compliance with all regulations around the world and may be subject to penalties and fines as a result. These penalties and fines may materially and adversely affect our performance.

Some of our services are performed in high-risk locations, such as Iraq and Afghanistan, where the country or location is suffering from political, social or economic issues, or war or civil unrest. In those locations, we incur substantial costs to maintain the safety of our personnel. Despite these precautions, the safety of our personnel in these locations may continue to be at risk. Despite our best efforts, we may suffer the loss of our employees or those of our contractors. The risk of these losses and the costs of protecting against them may become prohibitive. If so, we may face taking a decision regarding removing our employees from one or more of these countries and ceasing to seek new work or complete the existing contracts that we have in those countries or regions. Such a decision could, directly or indirectly, materially and adversely affect our current and future revenue, as well as our performance.

 

We may bear the risk of cost overruns relating to our services, thereby adversely affecting our performance.

 

The effort and cost associated with the completion of our systems integration, software development and implementation or other services are difficult to estimate and, in some cases, may significantly exceed the estimates made at the time we commence the services. We often provide these services under level-of-effort and fixed-price contracts. The level-of-effort contracts are usually based on time and materials or direct costs plus a fee. Under these arrangements, we are able to bill our client based on the actual cost of completing the services, even if the ultimate cost of the services exceeds our initial estimates. However, if the ultimate cost exceeds our initial estimate by a significant amount, we may have difficulty collecting the full amount that we are due under the contract, depending upon many factors, including the reasons for the increase in cost, our communication with the client throughout the project, and the client’s satisfaction with the services. As a result, we could incur losses with respect to these services even when they are priced on a level-of-effort basis. If we provide these services under a fixed-price contract, we bear the risk that the ultimate cost of the project will materially exceed the price to be charged to the client. If we fail to accurately estimate our costs or the time required to perform under a contract, our ability to generate profits on these contracts may be materially and adversely affected.

 

We may face legal liabilities and damage to our professional reputation from claims made against our work.

 

Many of our engagements involve projects that are critical to the operation of our clients’ businesses. If we fail to meet our contractual obligations, we could be subject to legal liability, which could adversely affect our business, operating results and financial condition. The provisions we typically include in our contracts that are designed to limit our exposure to legal claims relating to our services and the applications we develop may not protect us or may not be enforceable in all cases. Moreover, as a consulting firm, we depend to a large extent on our relationships with our clients and our reputation for high caliber professional services and integrity to retain and attract clients and employees. As a result, claims made against our work may be more damaging in our industry than in other businesses. Negative publicity related to our client relationships, regardless of its accuracy, may further damage our business by affecting our ability to compete for new engagements.

 

Our services may infringe upon the intellectual property rights of others.

 

We cannot be sure that our services do not infringe on the intellectual property rights of others, and we may have infringement claims asserted against us. These claims may harm our reputation, cost us money and prevent us from offering some services. In some contracts, we have agreed to indemnify our clients for certain expenses or liabilities resulting from claimed infringements of the intellectual property rights of third parties. In some instances, the amount of these indemnities may be greater than the revenue we receive from the client. Any claims or litigation in this area may be costly and result in large awards against us and, whether we ultimately win or lose, could be time-consuming, may injure our reputation, may result in costly delays or may require us to enter into royalty or licensing arrangements. If there is a successful claim of infringement or if we fail to develop non-infringing technology or license the proprietary rights we require on a timely basis, our

ability to use certain technologies, products, services and brand names may be limited, and our business may be harmed.

 

We have only a limited ability to protect our intellectual property rights, which are important to our success.

 

Our success depends, in part, upon our plan to develop, capture and protect re-usable proprietary methodologies and other intellectual property. We rely upon a combination of trade secrets, confidentiality policies, nondisclosure and other contractual arrangements, and patent, copyright and trademark laws to protect our intellectual property rights. Our efforts in this regard may not be adequate to prevent or deter infringement or other misappropriation of our intellectual property, and we may not be able to detect the unauthorized use of, or take appropriate and timely action to enforce, our intellectual property rights.

 

Depending on the circumstances, we may be required to grant a specific client certain intellectual property rights in materials developed in connection with an engagement, in which case we would seek to cross-license the use of such rights. In limited situations, however, we forego certain intellectual property rights in materials we help create, which may limit our ability to re-use such materials for other clients. Any limitation on our ability to re-use such materials could cause us to lose revenue-generating opportunities and require us to incur additional cost to develop new or modified materials for future projects.

 

Risks that Relate to Our Liquidity

 

Our current cash resources might not be sufficient to meet our expected cash needs over time. Beginning in early 2009, we will begin to become subject to significant required payments under our 2007 Credit Facility and various series of our debentures. We continue to believe that our cash balances, together with cash generated from operating activities and borrowings previously made under our 2007 Credit Facility, will be sufficient to provide adequate funds for our anticipated internal growth, operating needs and debt service obligations. However, if we cannot consistently generate sufficient positive cash flows from operating activities to fund these required payments and service our indebtedness, our business, financial condition and results of operations could be materially and adversely effected.

 

We have experienced recurring net losses. We have generated positive cash flows from operating activities in only five quarters since the beginning of 2005. Historically, we have often failed, sometimes significantly, to achieve management’s periodic operating budgets and cash forecasts.

 

For each fiscal year ending on or after December 31, 2008, we are required by our 2007 Credit Facility to repay principal in an amount equal to 50% of our Excess Cash Flow (as defined in the 2007 Credit Facility) for such year on or before the tenth business day when we are required to deliver financial statements for the applicable fiscal year, subject to certain credits for other voluntary payments we have made in any such year and certain exceptions. On April 15, 2009, we are obligated to honor the rights of the holders of our $200,000,000 5.00% Convertible Senior Subordinated Debentures to demand payment of up to the entire principal amount of those debentures. We currently expect most, if not all, of these debentures to be tendered for payment at that time. We will continue to have varying amounts of maturity payments and/or mandatory payment rights on other series of debentures in 2010, 2011 and beyond. For additional information regarding our debentures and the timing of such option, see “— Risks that Relate to Our Liquidity” and Note 6, “Notes Payable,” of the Notes to Consolidated Financial Statements. These ongoing, annual required payments will present a significant additional demand on our cash that we have not experienced in prior years. Therefore, we must begin to consistently generate positive cash flows from operating activities if we are to service these payments from cash generated from our business. If we are unable to service our indebtedness, whether in the ordinary course of business or upon acceleration of such indebtedness, our financial condition, cash flows and results of operation would be materially affected.

If we cannot consistently generate sufficient positive cash flows from operating activities, we will need to meet operating shortfalls and required prepayments with existing cash on hand, avail ourselves of the capital or credit markets or implement or seek alternative strategies. These alternative strategies could include seeking improvements in working capital management, reducing or delaying capital expenditures, restructuring or refinancing our indebtedness, seeking additional debt or equity capital and selling assets. There can be no assurances that existing cash will be sufficient, we will have timely access to the capital or credit markets or that any of these strategies can be implemented on satisfactory terms, on a timely basis, or at all.

 

Our 2007 Credit Facility imposes a number of restrictions on the way in which we operate our business and may negatively affect our ability to finance future needs, or do so on favorable terms. If we violate these restrictions, we will be in default under the 2007 Credit Facility, which may cross-default to our other indebtedness.

 

On May 18, 2007, we entered into a $400 million senior secured credit facility and on June 1, 2007, we amended and restated the credit facility to increase the aggregate commitments under the facility to $500 million (the “2007 Credit Facility”). The 2007 Credit Facility consists of term loans in an aggregate principal amount of $300 million (of which $297.8 million was outstanding as of December 31, 2007) and a letter of credit facility in an aggregate face amount at any time outstanding not to exceed $200 million (of which $86.9 million remained available as of December 31, 2007). For more information on our 2007 Credit Facility, see “Management’s Discussion and Analysis of Financial Condition and Results of Operation — Liquidity and Capital Resources.” Under the 2007 Credit Facility, certain of our corporate activities are restricted, which include, among other things, limitations on: disposition of assets; mergers and acquisitions; payment of dividends; stock repurchases and redemptions; incurrence of additional indebtedness; making of loans and investments; creation of liens; prepayment of other indebtedness; and engaging in certain transactions with affiliates. Any event of default under the 2007 Credit Facility or agreements governing our other significant indebtedness could lead to an acceleration of debt under the 2007 Credit Facility or other debt instruments that contain cross-default provisions. If the indebtedness under the 2007 Credit Facility were to be accelerated, our assets may not be sufficient to repay amounts due under the 2007 Credit Facility and the other debt securities then accelerated.

 

We may be unable to obtain new surety bonds, letters of credit or bank guarantees in support of client engagements on acceptable terms.

 

Some of our clients, primarily in the state and local markets, require us to obtain surety bonds, letters of credit or bank guarantees in support of client engagements. During 2007, we were required by our surety providers to fully collateralize (via cash or letters of credit) our obligations under our surety bonds. We expect this requirement of full collateralization of surety bonds to continue for the foreseeable future. If we cannot obtain or maintain surety bonds, letters of credit or bank guarantees on acceptable terms, we may be unable to maintain existing client engagements or to obtain additional client engagements that require them. In turn, our current and planned revenue, particularly from the State, Local and Education (“SLED”) sector of our Public Services industry group, could be materially and adversely affected. At December 31, 2007, we had $86.9 million remaining under the letter of credit facility of our 2007 Credit Facility.

 

Downgrades of our credit ratings may increase our borrowing costs and materially and adversely affect our business, financial condition or results of operation.

 

On February 6, 2007, Standard & Poor’s Rating Services (“Standard & Poor’s”) withdrew our senior unsecured rating of B- and our subordinated debt rating of CCC+ and removed them from CreditWatch. Separately, on December 7, 2007, Moody’s confirmed our B2 corporate family rating, assigned us a negative rating outlook and downgraded the ratings of our Series A and B Debentures to Caa1 from B3.

On or after October 31, 2008, the administrative agent under our 2007 Credit Facility may require us to use commercially reasonable efforts to have our corporate credit rated by Moody’s or Standard & Poor’s. There can be no assurance we could obtain or retain a specific rating or any rating by either entity.

 

Actions or refusals to act by the rating agencies may affect our ability to obtain financing or the terms on which such financing may be obtained. Our inability to obtain additional financing, or obtain additional financing on terms favorable to us, could hinder our ability to fund general corporate requirements, affect our stock price, limit our ability to retain existing clients or compete for new business, and increase our vulnerability to adverse economic and industry conditions.

 

Our leverage may adversely affect our business and financial performance and may restrict our operating flexibility.

 

The level of our indebtedness and our ongoing cash flow requirements for debt service and collateral maintenance:

 

 

The holders of our debentures have the right, at their option, to require us to purchase some or all of our debentures upon certain dates or upon the occurrence of certain designated events, which could have a material adverse effect on our liquidity.

 

The holders of certain of our debentures have the right (a “put” right), as of a specified date or upon a designated event, to require us to repurchase all or a portion of our debentures, in each case, at a price in cash equal to the principal amount of the debentures plus accrued and unpaid interest, if any.

The following table lists the maturity date and the put dates of our debentures:

 

 

If we cannot generate sufficient positive cash flows from operating activities or otherwise honor the put rights or maturities on our debentures with our existing cash balances, there can be no assurance that future borrowings or equity financing will be available for the payment or refinancing of the debentures.

 

The holders of our debentures also have the right to require us to repurchase any outstanding debentures upon certain dates and designated events. These events include certain change of control transactions and a termination of trading, if our common stock is no longer listed for trading on a U.S. national securities exchange. If we are unable to repurchase any of our debentures when due or otherwise breach any other debenture covenants, we may be in default under the related indentures, which could lead to an acceleration of unpaid principal and accrued interest under the indentures. Any such acceleration could lead to an acceleration of amounts outstanding under our 2007 Credit Facility. In the event of any acceleration of unpaid principal and accrued interest under our 2007 Credit Facility or under the debentures, we will not be permitted to make payments to the holders of the debentures until the unpaid principal and accrued interest under our 2007 Credit Facility have been fully paid.

 

For additional information regarding our debentures, see Note 6, “Notes Payable,” of the Notes to Consolidated Financial Statements.

 

Risks that Relate to our Failure to Timely File Periodic Reports with the SEC and our Internal Control over Financial Reporting

 

The process, training and systems issues related to financial accounting for our North American operations and the material weaknesses in our internal control over financial reporting continue to materially affect our financial condition and results of operation. So long as we are unable to resolve these issues and remediate these material weaknesses, we will be in jeopardy of being unable to timely file our periodic reports with the SEC as they come due, and it is likely that our financial condition and results of operation will continue to be materially and adversely affected. Furthermore, any subsequent failures to timely file any future periodic reports with the SEC could increase the likelihood or frequency of occurrence and severity of the impact of any of the risks described below.

Our continuing failure to timely file certain periodic reports with the SEC poses significant risks to our business, each of which could materially and adversely affect our financial condition and results of operation.

 

We did not timely file with the SEC our Forms 10-K for 2004, 2005 and 2006 or our Forms 10-Q for 2005, 2006 and 2007. Consequently, from March 16, 2005 to December 3, 2007 we did not timely comply with the reporting requirements under the Securities Exchange Act of 1934 (the “Exchange Act”) or the listing rules of the New York Stock Exchange (the “NYSE”).

 

If we are unable to timely file our periodic reports with the SEC, we may be subject to a number of significant risks, including:

 

 

 

 

Any of these events could materially and adversely affect our financial condition and results of operation.

 

In 2004, we identified material weaknesses in our internal control over financial reporting, the remediation of which continues to materially and adversely affect our business and financial condition, and as of December 31, 2007, certain material weaknesses remain.

 

Our management has conducted an assessment of the effectiveness of our internal control over financial reporting as of December 31, 2007 and has identified a number of material weaknesses in our internal control over financial reporting as of December 31, 2007. These material weaknesses also contributed to management’s conclusion as to the effectiveness of our internal control over financial reporting for 2004 through 2006. A detailed description of each of these remaining material weaknesses is described in Item 9A of this Annual Report. Due to these material weaknesses, management has concluded that we did not maintain effective internal control over financial reporting as of December 31, 2007. The existence of these material weaknesses continues to cause us to rely on additional procedures and other measures as needed to assist us with meeting the objectives otherwise fulfilled by an effective control environment.

 

Moreover, we continue to experience difficulty in internally producing accurate and timely forecasted financial information due, in part, to issues related to the material control weaknesses and other deficiencies

identified as part of management’s assessment of internal control over financial reporting, and, until the filing of our Form 10-Q for the quarterly period ended September 30, 2007, to the delays in filing our periodic reports with the SEC. While we continue to address many of the underlying issues that have affected our ability to produce accurate internal financial forecasts, there can be no assurance that our ability to produce such forecasts has sufficiently improved to enable us to accurately and timely predict and assess the ongoing cash demands or financial needs of our business. Moreover, our difficulties in producing accurate internal financial forecasts could jeopardize the accuracy of any financial guidance we provide publicly.

 

We have engaged in, and continue to engage in, substantial efforts to address the material weaknesses in our internal control over financial reporting. We cannot be certain that any remedial measures we have taken or plan to take will ensure that we design, implement and maintain adequate controls over our financial processes and reporting in the future or will be sufficient to address and eliminate these material weaknesses. Our inability to remedy these identified material weaknesses or any additional deficiencies or material weaknesses that may be identified in the future, could, among other things, cause us to fail to file our periodic reports with the SEC in a timely manner, result in the need to restate financial results for prior periods, prevent us from providing reliable and accurate financial information and forecasts or from avoiding or detecting fraud, result in the loss of government contracts, or require us to incur further additional costs or divert management resources. Due to its inherent limitations, effective internal control over financial reporting can provide only reasonable assurances that transactions are properly recorded, or that the unauthorized acquisition, use or disposition of our assets, or inappropriate reimbursements and expenditures, will be detected. These limitations may not prevent or detect all misstatements or fraud, regardless of their effectiveness.

 

Furthermore, in order to sustain the timely production of our financial statements and SEC periodic reports, we must reduce the time required to prepare our financial statement accounts and balances. Until our material weaknesses have been remediated, we will not be able to fully minimize the time required to prepare our financial statement accounts and balances. Our ability to remain timely in our SEC periodic reports will depend on, among other things, our ability to increase the focus of, and maximize the cooperation from, our client engagement teams and other corporate services in providing financial information and updates into our financial closing process on a timely basis. If we are unable to achieve these efficiencies, we may be unable to sustain being timely in our SEC periodic reports.

 

Risks that Relate to Our Common Stock

 

The price of our common stock may decline due to the number of shares that may be available for sale in the future.

 

Sales of a substantial number of shares of our common stock, or the perception that such sales could occur, could adversely affect the market price of our common stock.

Upon conversion or exercise of our outstanding convertible debt and warrants, including upon certain change of control transactions, we will issue the following number of shares of our common stock, subject to anti-dilution protection and other adjustments:

 

 

 

 

As of December 31, 2007, our employees held stock options to purchase 30.7 million shares, representing approximately 14% of our 215,156,077 shares of common stock then outstanding and of which 30.0 million shares are currently vested. An additional number of stock options generally will vest and become exercisable, at the exercise price indicated, during the calendar years indicated below:

 

 

Since 2005 we have significantly increased the issuance of equity in the form of restricted stock units (“RSUs”) and performance share units (“PSUs”) (collectively, “stock units”) to managing directors and other key employees, as a means of better aligning the interests of these employees with our shareholders and to enhance the retention of current managing directors. As of December 31, 2007, an aggregate of 12.2 million RSUs and 18.2 million PSUs, net of share settlements and forfeitures, were issued and outstanding. The following shares of common stock are expected to be delivered upon settlement of these stock units during the calendar years indicated below (assuming the vesting of PSUs at 100%):

 

 

Under the terms of our 2007 Credit Facility, we are limited in our ability to repurchase shares and apply share withholding for payroll tax obligations due from employees in connection with the settlement of their RSUs. Consequently, upon settlement of these RSUs, our employees are likely to sell significant numbers of their shares into the market in order to pay for their tax withholding obligations.

There are significant limitations on the ability of any person or company to acquire the Company without the approval of our Board of Directors (the “Board”).

 

We have adopted a stockholders’ rights plan. Under this plan, after the occurrence of specified events that may result in a change of control, our stockholders will be able to purchase stock from us or our successor at half the then current market price. This right will not extend, however, to persons participating in takeover attempts without the consent of our Board or to persons whom the Board determines to be adverse to the interests of the stockholders. Accordingly, this plan could deter takeover attempts.

 

In addition, our certificate of incorporation and bylaws each contains provisions that may make the acquisition of our company more difficult without the approval of our Board. These provisions include the following, among others:

 

 

 

None.

 

 

Our properties consist of leased office facilities for specific client contracts and for sales, support, research and development, consulting, administrative and other professional personnel. Our corporate headquarters consists of approximately 235,000 square feet in McLean, Virginia. As of December 31, 2007, we occupied approximately 88 additional offices in the United States and approximately 60 offices in Latin America, Canada, the Asia Pacific region and EMEA. All of our office space generally is leased pursuant to operating leases that expire over various periods during the next 10 years. Portions of our office space are sublet under operating lease agreements that expire over various periods during the next 7 years and are also being marketed for sublease or disposition. Although we believe our facilities are adequate to meet our needs in the near future, our business requires that our lease holdings accommodate the dynamic needs of our various consulting engagements and, given business demands, the makeup of our leasehold portfolio may change within the next twelve-month period to address these demands.

 

In May 2007, in connection with the settlement of our dispute with KPMG LLP (“KPMG”) regarding the transition services agreement entered into with KPMG in connection with our initial public offering, we amended certain real estate documents relating to a number of properties that we currently sublet from KPMG to either allow us to further sublease these properties to third parties, or to return certain properties we no

longer utilize to KPMG, in return for a reduction of the amount of our sublease obligations to KPMG for those properties.

 

 

Overview

 

We currently are a party to a number of disputes that involve or may involve litigation or other legal or regulatory proceedings. Generally, there are three types of legal proceedings to which we may be made a party:

 

 

We currently maintain insurance in types and amounts customary in our industry, including coverage for professional liability, general liability and management and director liability. Based on management’s current assessment and insurance coverages believed to be available, we believe that the Company’s financial statements include adequate provision for estimated losses that are likely to be incurred with regard to all matters of the types described above.

 

SEC Reporting Matters

 

2005 Class Action Suits. In and after April 2005, various separate complaints were filed in the U.S. District Court for the Eastern District of Virginia, alleging that the Company and certain of its current and former officers and directors violated Section 10(b) of the Exchange Act, Rule 10b-5 promulgated thereunder and Section 20(a) of the Exchange Act by, among other things, making materially misleading statements between August 14, 2003 and April 20, 2005 with respect to our financial results in our SEC filings and press releases. On January 17, 2006, the court certified a class, appointed class counsel and appointed a class representative. The plaintiffs filed an amended complaint on March 10, 2006 and the defendants, including the Company, subsequently filed a motion to dismiss that complaint, which was fully briefed and heard on May 5, 2006. We were awaiting a ruling when, on March 23, 2007, the court stayed the case, pending the U.S. Supreme Court’s decision in the case of Makor Issues & Rights, Ltd v. Tellabs, argued before the Supreme Court on March 28, 2007. On June 21, 2007, the Supreme Court issued its opinion in the Tellabs case, holding that to plead a strong inference of a defendant’s fraudulent intent under the applicable federal securities laws, a plaintiff must demonstrate that such an inference is not merely reasonable, but cogent and at least as compelling as any opposing inference of non-fraudulent intent. On September 12, 2007, the court dismissed with prejudice this complaint, granting motions to dismiss filed by the Company and the other named defendants. In granting the Company’s motion to dismiss, the court ruled that the plaintiff failed to meet the scienter pleading requirements set forth in the Private Securities Litigation Reform Act of 1995, as amended. On September 26, 2007, the plaintiffs filed a motion that seeks a reversal of the court’s order dismissing the case or an amendment to the court’s order that would allow the plaintiffs to replead. The Company filed its brief on October 17, 2007 and although a hearing on the plaintiffs’ motion was scheduled

for November 16, 2007, the court canceled the hearing as not necessary. On November 19, 2007, the court issued an order denying the plaintiffs’ motion to amend or alter the court’s September 12, 2007 dismissal of this matter. The plaintiffs have appealed the matter to the U.S. Court of Appeals for the Fourth Circuit.

 

2005 Shareholder’s Derivative Demand. On May 21, 2005, we received a letter from counsel representing one of our shareholders requesting that we initiate a lawsuit against our Board and certain present and former officers of the Company, alleging breaches of the officers’ and directors’ duties of care and loyalty to the Company relating to the events disclosed in our report filed on Form 8-K, dated April 20, 2005. On January 21, 2006, the shareholder filed a derivative complaint in the Circuit Court of Fairfax County, Virginia, that was not served on the Company until March 2006. The shareholder’s complaint alleged that his demand was not acted upon and alleged the breach of fiduciary duty claims previously stated in his demand. The complaint also included a non-derivative claim seeking the scheduling of an annual meeting in 2006. On May 18, 2006, following an extensive audit committee investigation, our Board responded to the shareholder’s demand by declining at that time to file a suit alleging the claims asserted in the shareholder’s demand. The shareholder did not amend the complaint to reflect the refusal of his demand. We filed demurrers on August 11, 2006, which effectively sought to dismiss the matter related to the fiduciary duty claims. On November 3, 2006, the court granted the demurrers and dismissed the fiduciary claims, with leave to file amended claims. As a result of our annual meeting of stockholders held on December 14, 2006, the claim seeking the scheduling of an annual meeting became moot. On January 3, 2007, the plaintiff filed an amended derivative complaint re-asserting the previously dismissed derivative claims and alleging that the Board’s refusal of his demand was not in good faith. The Company and the other defendants renewed their motion to dismiss all remaining claims by filing demurrers, which argument was heard on March 23, 2007. On February 20, 2008, the court granted the demurrers and dismissed the claims with prejudice.

 

SEC Investigation. On April 13, 2005, pursuant to the same matter number as its inquiry concerning our restatement of certain financial statements issued in 2003, the staff of the SEC’s Division of Enforcement requested information and documents relating to our March 18, 2005 Form 8-K. On September 7, 2005, we announced that the staff had issued a formal order of investigation in this matter. We subsequently have received subpoenas from the staff seeking production of documents and information, including certain information and documents related to an investigation conducted by our Audit Committee. We continue to provide information and documents to the SEC as requested. The investigation is ongoing and the SEC is in the process of taking the testimony of a number of our current and former employees, as well as one of our former directors.

 

In connection with the investigation by our Audit Committee, we became aware of incidents of possible non-compliance with the Foreign Corrupt Practices Act and our internal controls in connection with certain of our operations in China and voluntarily reported these matters to the SEC and U.S. Department of Justice in November 2005. Both the SEC and the Department of Justice are investigating these matters in connection with the formal investigation described above. On March 27, 2006, we received a subpoena from the SEC regarding information related to these matters and has responded to their requests through the summer of 2006. We have not received any further requests since that time.

 

Government Contracting Matters

 

A significant portion of our business relates to providing services under contracts with the U.S. Federal government or state and local governments, inclusive of government sponsored enterprises. These contracts are subject to extensive legal and regulatory requirements and, from time to time, agencies of the U.S. Federal government or state and local governments investigate whether our operations are being conducted in accordance with these requirements and the terms of the relevant contracts. In the ordinary course of business, various government investigations are ongoing. U.S. Federal government investigations of the Company, whether relating to these contracts or conducted for other reasons, could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon us, or could lead to suspension or debarment from future U.S. Federal government contracting. It cannot be determined at this time

whether any findings, conclusions, penalties, fines or other amounts determined to be applicable to us in any such investigation could have a material effect on our results of operation, outlook or business prospects.

 

 

As previously reported, on November 5, 2007, we held our 2007 Annual Meeting of Stockholders. Set forth below is information concerning each matter submitted to a vote at the meeting.

 

 

 

 

Executive Officers of the Registrant

 

Information about our executive officers as of February 1, 2008, is provided below.

 

Judy A. Ethell, 49, has been Chief Financial Officer since October 2006 and Executive Vice President — Finance and Chief Accounting Officer since July 2005. Previously, she held various positions with PricewaterhouseCoopers LLP between 1982 and 2005. From 2003 to 2005, Ms. Ethell was a Partner and Tax Site Leader of PricewaterhouseCoopers LLP, where her duties included managing client service, human resources, marketing, and management of the St. Louis, Missouri Tax office. From 2001 to 2003, Ms. Ethell was a National Tour Partner (Tax) of PricewaterhouseCoopers LLP.

 

F. Edwin Harbach, 54, has been Chief Executive Officer and a member of our Board since December 2007. Mr. Harbach has also served as our President and Chief Operating Officer from January 2007 to December 2007. From 1976 until his retirement in 2004, Mr. Harbach held various positions with and served in leadership roles at Accenture Ltd, a global management consulting, technology services and outsourcing company, including Chief Information Officer, Managing Partner of Japan and Managing Director of Quality and Client Satisfaction.

 

Laurent C. Lutz, 47, has been General Counsel and Secretary since March 2006. From 1999 to 2006, Mr. Lutz was Assistant General Counsel, Corporate Finance and Securities, of Accenture Ltd, a global management consulting, technology services and outsourcing company.

 

The term of office of each officer continues until the election and qualification of a successor, or otherwise in the discretion of the Board.

 

There is no arrangement or understanding between any of the above-listed officers and any other person pursuant to which any such officer was elected as an officer.

 

None of the above-listed officers has any family relationship with any director or other executive officer. See Item 13, “Certain Relationships and Related Transactions, and Director Independence — Related Transactions — Judy Ethell/Robert Glatz,” for information about Ms. Ethell’s relationship with Robert Glatz, a former managing director and former member of our management team.

 

 

Market Information

 

Our common stock is traded on the NYSE under the trading symbol “BE.”

 

The following table sets forth the high and low sales prices for our common stock as reported on the NYSE for the quarterly periods indicated.

 

Price Range of Common Stock

 

 

Holders

 

At December 31, 2007, we had approximately 838 stockholders of record.

 

Dividends

 

We have never paid cash dividends on our common stock, and we do not anticipate paying any cash dividends on our common stock for at least the next 12 months. We intend to retain all of our earnings, if any, for general corporate purposes, and, if appropriate, to finance the expansion of our business. Our 2007 Credit Facility contains limitations on our payment of dividends. Our future dividend policy will also depend on our earnings, capital requirements, financial condition and other factors considered relevant by our Board.

Equity Compensation Plan Information

 

Equity Compensation Plan Information
(as of December 31, 2007)

 

 

 

 

Issuer Purchases of Equity Securities

 

The following table provides information relating to our purchase of shares of common stock of the Company in 2007:

 

 

 

COMPARATIVE STOCK PERFORMANCE

 

Our Peer Group (the “Peer Group”) consists of Accenture Ltd, Computer Sciences Corporation, Electronic Data Systems Corporation and Cap Gemini SA. We believe that the members of the Peer Group are most comparable to us in terms of client base, service offerings and size.

 

The following graph compares the total stockholder return on our common stock from 2003 through 2007 with the total return on the Standard & Poor’s (“S&P”) 500 Index and the Peer Group. The graph assumes that $100 is invested initially and all dividends are reinvested.

 

 

 

Our selected financial data is derived from our audited Consolidated Financial Statements and related Notes included elsewhere in this report as of and for the years ended December 31, 2007, 2006 and 2005. The selected data as of and for the year ended December 31, 2004, as of and for the six months ended December 31, 2003, and as of and for the year ended June 30, 2003, are also derived from audited financial statements. Through June 30, 2003, our fiscal year ended on June 30. In February 2004, our Board approved a change in our fiscal year-end to a twelve-month period ending December 31. As a requirement of this change, the results for the six-month period from July 1, 2003 to December 31, 2003 were reported as a six-month transition period. Selected financial data should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operation,” and the Consolidated Financial Statements and the related Notes included herein.

Statements of Operations

 

 

Balance Sheet Data

 

 

 

 

The following Management’s Discussion and Analysis of Financial Condition and Results of Operation (“MD&A”) should be read in conjunction with the Consolidated Financial Statements and the Notes to Consolidated Financial Statements included elsewhere in this Annual Report. This Annual Report contains forward-looking statements that involve risks and uncertainties. See “Forward-Looking Statements.”

 

Overview

 

We want to be recognized as the world leader in management and technology consulting, admired for our passion and respected for our ability to solve our clients’ most important challenges. We provide strategic consulting applications services, technology solutions and managed services to government organizations, Global 2000 companies and medium-sized businesses in the United States and internationally. In North America, we provide consulting services through our Public Services, Commercial Services and Financial Services industry groups in which we focus significant industry-specific knowledge and service offerings to our clients. Outside of North America, we are organized on a geographic basis, with operations in EMEA, the Asia Pacific region and Latin America.

 

Economic and Industry Factors

 

We believe that our clients’ spending for consulting services is partially correlated to, among other factors, the performance of the domestic and global economy as measured by a variety of indicators such as gross domestic product, government policies, mergers and acquisitions activity, corporate earnings, U.S. Federal and state government budget levels, inflation and interest rates and client confidence levels, among others.

 

As economic uncertainties increase, clients’ interests in business and technology consulting historically have turned more to improving existing processes and reducing costs rather than investing in new innovations. Demand for our services, as evidenced by new contract bookings, also does not uniformly follow changes in economic cycles. Consequently, we may experience rapid decreases in new contract bookings at the onset of significant economic downturns while the benefits of economic recovery may take longer to realize. Mindful of this phenomenon and the potential for increasing economic uncertainty in 2008, our business plan places significant emphasis on continuing our cost reduction and consolidation efforts, monitoring our utilization rates, and making conservative estimates of minimal to no revenue growth in 2008. In terms of achieving our performance goals for 2008, we believe that the historic resiliency of our Public Services business to economic downturns, as well as the level of new bookings obtained in 2007, will aid us in achieving our business goals. Nonetheless, most bookings are subject to cancellation on short notice and we may be unable to rapidly and effectively adjust our cost structure if we experience significant cancellations or deferrals of work.

 

The markets in which we provide services are increasingly competitive and global in nature. While supply and demand in certain lines of business and geographies may support price increases for some of our standard service offerings from time to time, to maintain and improve our profitability we must constantly seek to improve and expand our unique service offerings and deliver our services at increasingly lower cost levels. Our Public Services industry group, which is our largest, also must operate within the U.S. Federal, state and local government markets where unique contracting, budgetary and regulatory regimes control how contracts are awarded, modified and terminated. Budgetary constraints or reductions in government funding may result in the modification or termination of long-term government contracts, which could dramatically affect the outlook of that business.

Revenue and Income Drivers

 

We derive substantially all of our revenue from professional services activities. Our revenue is driven by our ability to continuously generate new opportunities to serve clients, by the prices we obtain for our service offerings, and by the size and utilization of our professional workforce. Our ability to generate new business is directly influenced by the economic conditions in the industries and regions we serve, our anticipation and response to technological change, the type and level of technology spending by our clients and by our clients’ perception of the quality of our work. Our ability to generate new business is also indirectly and increasingly influenced by our clients’ perceptions of our ability to manage our ongoing issues surrounding our financial position and SEC reporting capabilities.

 

Our gross profit consists of revenue less our costs of service. The primary components of our costs of service include professional compensation and other direct contract expenses. Professional compensation consists of payroll costs and related benefits associated with client service professional staff (including bonuses, the vesting of various stock awards, tax equalization for employees on foreign and long-term domestic assignments and costs associated with reductions in workforce). Other direct contract expenses include costs directly attributable to client engagements. These costs include out-of-pocket costs such as travel and subsistence for client service professional staff, costs of hardware and software, and costs of subcontractors. If we are unable to adequately control or estimate these costs, or properly anticipate the sizes of our client service and support staff, our profitability will suffer.

 

Our operating profit reflects our revenue less costs of service and certain additional items that include, primarily, SG&A expenses, which include costs related to marketing, information systems, depreciation and amortization, finance and accounting, human resources, sales force, and other expenses related to managing and growing our business. Write-downs in the carrying value of goodwill and amortization of intangible assets have also reduced our operating profit.

 

Our operating cash flow is derived predominantly from gross operating profit and how we manage our receivables and payables.

 

Key Performance Indicators

 

In evaluating our operating performance and financial condition, we focus on the following key performance indicators: bookings, revenue growth, gross margin (gross profit as a percentage of revenue), utilization, days sales outstanding, free cash flow and attrition.

 

 

 

We believe that it is also useful to monitor net revenue, as well as revenue growth. Net revenue represents the actual amount paid by our clients for the services we provide, as opposed to services provided by others and ancillary costs and expenses. Net revenue is a non-GAAP financial measure. The most directly comparable financial measure in accordance with generally accepted accounting principles in the United States of America (“GAAP”) is revenue. Net revenue is derived by reducing the components of revenue that consist of other direct contract expenses, which are costs that are directly attributable to client engagements. These costs include items such as computer hardware and software, travel expenses for professional personnel and costs associated with subcontractors.

 

 

We also monitor “contribution margin” to better review the profitability of our respective operating segments. Contribution margin is a non-GAAP financial measure. The most directly comparable financial measure in accordance with GAAP is gross margin. Contribution margin is calculated by subtracting, from net revenue, professional compensation, other costs of service, SG&A and certain other allocations, and then dividing by net revenue.

 

 

Readers should understand that each of the performance indicators identified above are utilized by many companies in our industry and by those who follow our industry. There are no uniform standards or requirements for computing these performance indicators, and, consequently, our computations of these amounts may not be comparable to those of our competitors.

 

2007 Highlights

 

We are not pleased with our overall performance in 2007. While we made great strides in 2007 toward our goals of becoming timely in the filing of our SEC periodic reports and significantly reducing our SG&A expenses, we realized a net loss of $362.7 million, as compared to a net loss of $213.4 million for 2006. We also exceeded our year-end cash balance target for 2007, ending the year with cash and cash equivalents of $468.5 million.

 

For the fourth quarter of fiscal 2007, we realized a net loss of $169.0 million, which was significantly above the average of our net losses incurred in the first three quarters of fiscal 2007. Proactive management actions taken in the fourth quarter and intended to drive further cost savings in 2008 contributed significantly to the magnitude of this loss. These fourth quarter management actions included, among other things, lease and facilities restructuring costs of $20.6 million and additional severance costs of $14.4 million. Also contributing to the fourth-quarter loss was $58.8 million in contract write-downs and loss accruals, a notable net year-over-year increase over the fourth quarter of fiscal 2006. Notwithstanding these fourth-quarter increases, total contract write-downs and loss accruals for the full fiscal year continued to show improvement, as compared to contract write-downs and loss accruals for 2006 and 2005.

 

Of particular note in 2007 are the following:

 

 

 

 

Contributing to the net loss for 2007 were $60.1 million of bonus expense (which includes, among other things, $6.3 million related to 2006 performance bonuses, $10.6 million related to performance cash

awards made in 2007 (described below) and $30.3 million expected to be paid in 2008 for 2007 performance), $97.1 million of non-cash compensation expense related to the vesting of stock-based awards, $20.9 million of lease and facilities restructuring charges, and the previously mentioned $83.5 million in external costs related to the preparation of our financial statements, our auditors’ review and audit of our financial statements and the testing of internal controls.

 

 

Final determination of a significant portion of the Company’s tax liabilities that will effectively be settled remains subject to ongoing examination by various taxing authorities, including the Internal Revenue Service. We are actively pursuing strategies to favorably settle or resolve these liabilities for unrecognized tax benefits. If we are successful in mitigating these liabilities, in whole or in part, the majority of the impact will be recorded as an adjustment to income tax expense in the period of settlement.

 

 

 

 

Principal Business Priorities for 2008 and Beyond

 

For 2008, our principal business priorities are to: (1) leverage opportunities across our global footprint; (2) attract, develop and retain a world-class employee base; and (3) strive for operational excellence and profitability. Management’s current and planned initiatives to achieve these priorities are set forth below.

 

Leverage Opportunities Across our Global Footprint. We must strengthen our global delivery model to create greater opportunities and scale our offerings and solutions that offer the greatest opportunities for growth and profitability. We believe that operating globally will help us better serve our clients’ needs, provide us with an advantage over regional competitors and allow us to maintain a diverse portfolio that can help to sustain our business during economic downturns.

 

 

 

Attract, Develop and Retain a World-Class Employee Base. As a professional services company, our employees are the cornerstone of our success. We must attract, develop and retain world-class talent. Under the leadership of our new Executive Vice President, Human Resources, our goal is to build a world-class human resources function that will help us hire and retain our employees and provide outstanding training and career opportunities for our people. Our initiatives for 2008 include:

 

 

Due to the complexity and uncertainty involved in determining the likelihood of vesting of the PSUs, as well as the extended timeframe for vesting and settlement, we have some concerns that the PSUs may not significantly incent our employees to remain with the Company. As long as these PSUs continue to remain outstanding, our ability to take any other retentive actions by issuing additional equity to our employees remains limited.

We believe that providing equity to our employees is a key element of our incentive compensation, to properly motivate performance, increase their ownership in our business and align their interests with those of our shareholders. As a result, in 2008 we are currently re-evaluating the efficacy of the PSUs as a compensation tool and our ability to consider alternatives to the PSUs that will have clearer retentive value for our employees. Regardless of how we address the existing component of our employees’ compensation, we currently do not intend to seek approval from our shareholders for any further increase to our share capacity under the LTIP prior to 2009.

 

Drive Operational Excellence. In order to achieve our business goals, we must take actions that will increase revenue, manage our costs of service and reduce our infrastructure costs. In 2008, we will focus on the following:

 

 

In 2008, we must demonstrate our ability to consistently file our SEC periodic reports on a timely basis. If we are not timely in filing our periodic reports on or after October 31, 2008, an event of default could be declared by our lenders under our senior secured credit facility, which may result in the lenders declaring our outstanding loans due and payable in whole or in part, and potentially resulting in a cross-default to one or more series of our convertible debentures.

 

Segments

 

Our reportable segments for 2007 consist of our three North America Industry Groups (Public Services, Commercial Services and Financial Services), our three international regions (EMEA, Asia Pacific and Latin America) and the Corporate/Other category (which consists primarily of infrastructure costs). Revenue and gross profit information about our segments are presented below, starting with each of our industry groups and then with each of our three international regions (in order of size).

 

Our chief operating decision maker, the Chief Executive Officer, evaluates performance and allocates resources among the segments. Accounting policies of our segments are the same as those described in Note 2, “Summary of Significant Accounting Policies,” of the Notes to Consolidated Financial Statements. Upon consolidation, all intercompany accounts and transactions are eliminated. Inter-segment revenue is not included in the measure of profit or loss for each reportable segment. Performance of the segments is evaluated on operating income excluding the costs of infrastructure functions (such as information systems, finance and accounting, human resources, legal and marketing) as described in Note 18, “Segment Information,” of the Notes to Consolidated Financial Statements. During 2005, we combined our Communications, Content and Utilities and Consumer, Industrial and Technology industry groups to form the Commercial Services industry group.

 

Year Ended December 31, 2007 Compared to Year Ended December 31, 2006

 

Revenue. Our revenue for 2007 was $3,455.6 million, an increase of $11.6 million, or 0.3%, over 2006 revenue of $3,444.0 million. The following tables present certain revenue information and performance metrics for each of our reportable segments during 2007 and 2006. Amounts are in thousands, except percentages. For additional geographical revenue information, please see Note 18, “Segment Information,” of the Notes to Consolidated Financial Statements.

 

 

 

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Gross Profit. During 2007, our revenue increased $11.6 million and total costs of service increased $93.6 million when compared to 2006, resulting in a decrease in gross profit of $82.0 million, or 14.9%. Gross profit as a percentage of revenue decreased to 13.6% for 2007 from 16.0% for 2006. The change in gross profit for 2007 compared to 2006 resulted primarily from the following:

 

Gross Profit by Segment. The following tables present certain gross profit and margin information and performance metrics for each of our reportable segments for years 2007 and 2006. Amounts are in thousands, except percentages.

 

 

 

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Changes in gross profit by segment were as follows:

 

 

 

Amortization of Purchased Intangible Assets. We did not incur any amortization expense in 2007 as our intangible assets were fully amortized. Amortization of purchased intangible assets was $1.5 million in 2006.

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased $46.9 million, or 6.3%, to $701.3 million for 2007 from $748.3 million for 2006. Selling, general and administrative expenses as a percentage of gross revenue decreased to 20.3% for 2007 from 21.7% for 2006. The decrease was primarily due to reduced costs directly related to the closing of our financial statements, primarily subcontracted labor, as well as savings from the reduction in the size of our sales force. Partially offsetting these savings was increased compensation expense for additional SG&A personnel, additional recruiting costs incurred and stock-based compensation expense related to RSUs and PSUs.

 

Interest Income. Interest income was $12.1 million and $8.7 million in 2007 and 2006, respectively. Interest income is earned primarily from cash and cash equivalents, including money-market investments. The increase in interest income was due to a higher level of cash invested in money markets during 2007.

 

Interest Expense. Interest expense was $61.2 million and $37.2 million in 2007 and 2006, respectively. Interest expense is attributable to our debt obligations, consisting of interest due along with amortization of loan costs and loan discounts. The increase in interest expense was due to interest attributable to our 2007 Credit Facility, the acceleration of debt issuance costs resulting from the termination of the 2005 Credit Facility, and, to a lesser extent, higher interest rates on our debt obligations.

 

Insurance Settlement. During 2006, related to the Settlement Agreement with HT, we recorded $38.0 million for an insurance settlement. For additional information, see Note 11, “Commitments and Contingencies,” of the Notes to Consolidated Financial Statements.

 

Other (Expense) Income, net. Other expense, net, was $8.6 million in 2007, and other income, net, was $8.7 million in 2006. The balances in each period primarily consisted of foreign currency exchange gains and losses.

Income Tax Expense. We incurred income tax expense of $72.2 million for the year ended December 31, 2007 and income tax expense of $32.4 million for the year ended December 31, 2006. The principle reasons for the differences between the effective income tax rate on loss from continuing operations of (24.9)% and (17.9)% for years ended December 31, 2007 and 2006, respectively, and the U.S. Federal statutory income tax rate were: nondeductible meals and entertainment expense of $19.0 million and $22.0 million; increases to deferred tax asset valuation allowance of $125.6 million and $76.8 million; state and local income taxes of $(12.4) million and $(6.7) million; foreign recapitalization and restructuring of $17.3 million and $5.4 million; foreign taxes of $17.4 million and $(3.8) million; income tax reserves of $12.5 million and $8.4 million; non-deductible interest of $7.8 million and $10.7 million; foreign dividend income of $1.0 million and $13.6 million; and other non-deductible items of $17.4 million and $10.0 million, respectively.

 

Net Loss. For 2007, we incurred a net loss of $362.7 million, or a loss of $1.68 per share. Contributing to the net loss for 2007 were $60.1 million of bonus expense (which includes, among other things, $6.3 million related to 2006 performance bonuses, $10.6 million related to the Performance Cash Awards and $30.3 million expected to be paid in 2008 for 2007 performance), $97.1 million of non-cash compensation expense related to the vesting of stock-based awards, $20.9 million of lease and facilities restructuring charges, and the previously mentioned $83.5 million in external costs related to the preparation of our financial statements, our auditors’ review and audit of our financial statements and the testing of internal controls. For 2006, we incurred a net loss of $213.4 million, or a loss of $1.01 per share. Contributing to the net loss for 2006 were $48.2 million of losses related to the previously mentioned settlements with telecommunications clients, $57.4 million of bonus expense, $53.4 million of non-cash compensation expense related to the vesting of stock-based awards, $29.6 million of lease and facilities restructuring charges and the previously mentioned $33.6 million year-over-year increase in external costs related to the closing of our financial statements.

 

Year Ended December 31, 2006 Compared to Year Ended December 31, 2005

 

Revenue. Our revenue for 2006 was $3,444.0 million, an increase of $55.1 million, or 1.6%, over 2005 revenue of $3,388.9 million. The following tables present certain revenue information and performance metrics for each of our reportable segments during 2006 and 2005. Amounts are in thousands, except percentages. For additional geographical revenue information, please see Note 18, “Segment Information,” of the Notes to Consolidated Financial Statements.

 

 

 

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Gross Profit. During 2006, our revenue increased $55.1 million and total costs of service decreased $137.4 million when compared to 2005, resulting in an increase in gross profit of $192.5 million, or 53.8%. Gross profit as a percentage of revenue increased to 16.0% for 2006 from 10.6% for 2005. The change in gross profit for 2006 compared to 2005 resulted primarily from the following:

 

 

Gross Profit by Segment. The following tables present certain gross profit and margin information and performance metrics for each of our reportable segments for years 2006 and 2005. Amounts are in thousands, except percentages.

 

 

 

n/m = not meaningful

 

Changes in gross profit by segment were as follows:

 

 

 

Amortization of Purchased Intangible Assets. Amortization of purchased intangible assets decreased $0.7 million to $1.5 million in 2006 from $2.3 million for 2005.

 

Goodwill Impairment Charges. In 2006, there was no goodwill impairment charge. In 2005, a goodwill impairment loss of $166.4 million was recognized. For 2005, it was determined that the carrying amount of our EMEA and Commercial Services segments’ goodwill exceeded the implied fair value of that goodwill by $102.2 million and $64.2 million, respectively.

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased $2.6 million, or 0.3%, to $748.3 million for 2006 from $750.9 million for 2005. Selling, general and administrative expenses as a percentage of gross revenue decreased to 21.7% for 2006 from 22.2% for 2005. The decrease was primarily due to costs savings from the reduction in the size of the Company’s sales force and reducing other business development expenses. Offsetting these decreases were increases in costs for finance and accounting, primarily for sub-contracted labor and other costs directly related to the 2005 financial statement close. In addition, the Company incurred additional SG&A expenses during 2006 related to an agreement with Yale University, as described above.

 

Interest Income. Interest income was $8.7 million and $9.0 million in 2006 and 2005, respectively. Interest income is earned primarily from cash and cash equivalents, including money-market investments. The slight decrease in interest income was due to lower levels of cash available to be invested in money markets during 2006 as compared to 2005.

 

Interest Expense. Interest expense was $37.2 million and $33.4 million in 2006 and 2005, respectively. Interest expense is attributable to our debt obligations, consisting of interest due along with amortization of loan costs and loan discounts. The increase in interest expense was due to higher average debt balances in 2006 as compared to 2005.

 

Insurance Settlement. During 2006, related to the Settlement Agreement with Hawaiian Telcom Communications, Inc., we recorded $38.0 million for an insurance settlement. See Note 11, “Commitments and Contingencies,” of the Notes to Consolidated Financial Statements for more information.

 

Other Income/Expense, net. Other income, net, was $8.7 million in 2006, and other expense, net, was $13.6 million in 2005. The balances in each period primarily consist of realized foreign currency exchange gains and losses.

 

Income Tax Expense. We incurred income tax expense of $32.4 million for the year ended December 31, 2006 and income tax expense of $122.1 million for the year ended December 31, 2005. The principal reasons

for the difference between the effective income tax rate on loss from continuing operation of (17.9)% and (20.4)% for years ended December 31, 2006 and 2005, respectively, and the U.S. Federal statutory income tax rate are the nondeductible goodwill impairment charge of $0 million and $118.5 million; nondeductible meals and entertainment expense of $22.0 million and $19.6 million; increase to deferred tax asset valuation allowance of $76.8 million and $223.0 million; state and local income taxes of $(6.7) million and $(12.7) million; impact of foreign recapitalization of $5.4 million and $82.0 million; foreign taxes of $(3.8) million and $13.7 million; income tax reserves of $8.4 million and $18.6 million; non-deductible interest of $10.7 million and $7.7 million; foreign dividend income of $13.6 million and $9.3 million and other non-deductible items of $10.0 million and $3.7 million, respectively.

 

Net Loss. For 2006, we incurred a net loss of $213.4 million, or a loss of $1.01 per share. Contributing to the net loss for 2006 were $48.2 million of losses related to the previously mentioned settlements with telecommunication clients, $57.4 million accrued for bonuses payable to our employees, $53.4 million of non-cash compensation expense related to the vesting of stock-based awards, $29.6 million of lease and facilities restructuring charges and the previously mentioned $33.6 million year-over-year increase in external costs related to the closing of our financial statements. For 2005, we incurred a net loss of $721.6 million, or a loss of $3.59 per share. Included in our results for 2005 were a $166.4 million goodwill impairment charge, $111.7 million of operating losses related to the HT Contract, $81.8 million of non-cash compensation expense related to the vesting of Retention RSUs, a $55.3 million increase in the valuation allowance primarily against our U.S. deferred tax assets, and $29.6 million of lease and facilities restructuring charges.

 

Obligations and Commitments

 

As of December 31, 2007, we had the following obligations and commitments to make future payments under contracts, contractual obligations and commercial commitments (amounts are in thousands):

 

 

 

 

Liquidity and Capital Resources

 

The following table summarizes the cash flow statements for 2007, 2006 and 2005 (amounts are in thousands):

 

 

Operating Activities. Net cash used in operating activities during 2007 increased $252.9 million over 2006. This increase was primarily attributable to an increase in net loss, net of non-cash items, the timing of payment of significant amounts of accounts payable and, to a lesser degree, increases to our combined accounts receivable and unbilled revenue despite a decrease in DSOs during 2007.

 

Net cash provided by operating activities during 2006 increased $171.8 million over 2005. This increase was primarily attributable to improved profitability and a decrease in accounts receivable, as our DSOs decreased to 82 days at December 31, 2006 from 94 days at December 31, 2005, providing an additional $136.3 million. These items were partially offset by the cash outflow to support the professional services and related expenses required under the HT Contract, and, to a lesser extent, payments made for the Peregrine settlement of $36.9 million.

 

Investing Activities. Net cash used in investing activities during 2007 was $35.9 million, and net cash provided by investing activities during 2006 was $67.6 million. Capital expenditures were $37.3 million and $50.6 million during 2007 and 2006, respectively. In 2007 and 2006, $1.4 million and $118.2 million, respectively, of restricted cash posted as collateral for letters of credit and surety bonds was released.

 

Net cash provided by investing activities during 2006 increased $208.6 million over 2005. This increase was predominantly due to the change in the amount of restricted cash posted as collateral for letters of credit and surety bonds. The requirement to deposit and maintain cash collateral terminated as part of the March 31, 2006 amendment to the 2005 Credit Facility, and such cash collateral was released to us. The increase was offset by an increase of $9.7 million in capital expenditures in 2006 over 2005.

 

Financing Activities. Net cash provided by financing activities during 2007 was $290.6 million, resulting primarily from the proceeds received from the Term Loans under the 2007 Credit Facility with an aggregate principal amount of $300.0 million. Net cash used in financing activities during 2006 was $7.3 million, primarily due to repayments of our Japanese term loans.

 

In addition, issuances of common stock under the ESPP generated $12.4 million, $0 and $14.9 million in cash during 2007, 2006 and 2005, respectively. Because we were not current in our SEC periodic reports in 2006 and 2005, we were unable to issue freely tradable shares of our common stock and had not issued shares

under the LTIP or ESPP since early 2005. These sources of financing became available to us again once we became current in our SEC periodic reports in 2007.

 

Additional Cash Flow Information

 

2007. At December 31, 2007, we had global cash balances of $468.5 million. Our 2007 Credit Facility consists of (1) term loans in the aggregate principal amount of $300 million (of which $297.8 million was outstanding as of December 31, 2007) and (2) a letter of credit facility in an aggregate face amount at any time outstanding not to exceed $200 million (of which $86.9 million remained available as of December 31, 2007). Borrowings under the 2007 Credit Facility will be used for general corporate purposes, including the payment of obligations outstanding under our prior credit facility, and payment of the fees and expenses of the 2007 Credit Facility. For additional information regarding the 2007 Credit Facility, see “— 2007 Credit Facility.”

 

Our decision to obtain the 2007 Credit Facility was based, in part, on the fact that our North American cash balances have been negatively affected in the second quarter of 2007 by, among other things, cash collection levels not maintaining pace with the levels achieved in the fourth quarter of 2006 and payments made in connection with (1) the uninsured portion of the settlement of the dispute with HT, (2) ongoing costs relating to the design and implementation of our new North American financial reporting system, (3) ongoing costs relating to production and completion of our financial statements, (4) other additional accrued expenses for 2006 paid in the second quarter of 2007, and (5) our expectations at the time that operations would not generate cash before the latter part of 2007.

 

Outlook. We currently expect that our operations will begin to provide rather than use cash in the second half of 2008. Based on current internal estimates, we nonetheless believe that our cash balances, together with cash generated from operation and borrowings made under our 2007 Credit Facility, will be sufficient to provide adequate funds for our anticipated internal growth, operating needs and debt service obligations. We are currently undertaking a detailed analysis of our current capital structure with our financial advisors, as well as alternative strategies intended to further improve our capital structure, global cash balances and their accessibility, if current internal estimates for cash uses for 2008 prove incorrect. These activities include initiating further cost reduction efforts, seeking improvements in working capital management, reducing or delaying capital expenditures, reorganizing our internal corporate structure, refinancing or seeking additional debt or equity capital and selling assets. However, our ability to execute on any of these strategies could be significantly impacted by numerous factors, including changes in the economic or business environment, financial market volatility, the performance of our business, and the terms and conditions in our various bank financing and indenture agreements.

 

Based on the foregoing and our current state of knowledge of the outlook for our business, we currently believe that our existing cash balances and cash flows expected to be generated from operation will be adequate to finance our working capital needs for the next twelve months. However, actual results may differ from current expectations for many reasons, including losses of business that could result from our failure to timely file periodic reports with the SEC, the occurrence of any event of default that could provide our lenders with a right of acceleration (e.g., non-payment), possible delisting from the New York Stock Exchange, further downgrades of our credit ratings or unexpected demands on our current cash resources (e.g., to settle lawsuits).

 

For additional information regarding various risk factors that could affect our outlook, see Item 1A, “Risk Factors.” If cash provided from operation is insufficient and/or our ability to access the capital or credit markets is impeded, our business, operation, results and cash flow could be materially and adversely affected.

Debt Obligations

 

The following tables present a summary of the activity in our debt obligations for 2007 and 2006 (amounts are in thousands):