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DELTEK INC 10-K 2009
Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-K

 

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

For the fiscal year ended December 31, 2008

OR

 

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

For the transition period from                      to                     

Commission File Number 001-33772

 

 

DELTEK, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

Delaware   13880 Dulles Corner Lane, Herndon, Virginia 20171   54-1252625
(State of Incorporation)   (Address of Principal Executive Offices) (Zip Code)   (IRS Employer Identification No.)

Registrant’s Telephone Number, Including Area Code: (703) 734-8606

 

 

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

 

Title of each class   Name of each exchange on which registered
common stock, par value $0.001 per share   The NASDAQ Global Select Market

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

Not applicable

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

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  ¨    No  x

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark 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.    ¨

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

 

Large accelerated filer  ¨  

Accelerated filer  x

 

Non-accelerated filer  ¨

(Do not check if a smaller reporting company)

 

Smaller reporting company  ¨

 

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

The aggregate market value of the common stock of the registrant held by non-affiliates (based on the last reported sale price of the registrant’s common stock on June 30, 2008 on the Nasdaq Global Market) was approximately $75.3 million.

The number of shares of the registrant’s common stock and Class A common stock outstanding on March 11, 2009 was 43,498,610 and 100, respectively.

Documents incorporated by reference: Portions of the Proxy Statement for the 2009 Annual Meeting of Stockholders of the registrant to be filed subsequently with the Securities and Exchange Commission are incorporated by reference into Part III of this report.

 

 

 


Table of Contents

DELTEK, INC.

TABLE OF CONTENTS

 

          Page

PART I

  

Item 1.

  

Business

   2

Item 1A.

  

Risk Factors

   12

Item 2.

  

Properties

   28

Item 3.

  

Legal Proceedings

   28

Item 4.

  

Submission of Matters to a Vote of Security Holders

   28

PART II

  

Item 5.

  

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

   29

Item 6.

  

Selected Financial Data

   31

Item 7.

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   32

Item 7A.

  

Quantitative and Qualitative Disclosures About Market Risk

   54

Item 8.

  

Financial Statements and Supplementary Data

   55

Item 9.

  

Changes In and Disagreements with Accountants on Accounting and Financial Disclosure

   55

Item 9A.

  

Controls and Procedures

   55

Item 9B.

  

Other Information

   59

PART III

  

Item 10.

  

Directors, Executive Officers and Corporate Governance

   59

Item 11.

  

Executive Compensation

   59

Item 12.

  

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

   59

Item 13.

  

Certain Relationships and Related Transactions, and Director Independence

   59

Item 14.

  

Principal Accountant Fees and Services

   59

PART IV

  

Item 15.

  

Exhibits and Financial Statement Schedules

   60
  

Signatures

   61

 

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CERTAIN DEFINITIONS

All references in this Annual Report on Form 10-K to “Deltek,” “Company,” “we,” “us” and “our” refer to Deltek, Inc. and its consolidated subsidiaries (unless the context otherwise indicates).

FORWARD-LOOKING INFORMATION

This Annual Report on Form 10-K contains forward-looking statements, within the meaning of the Federal securities laws, about our business and prospects. Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “outlook,” “believes,” “plans,” “intends,” “expects,” “goals,” “potential,” “continues,” “may,” “seeks,” “approximately,” “predicts,” “estimates,” “anticipates” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these words. Our future results may differ materially from our past results and from those projected in the forward-looking statements due to various uncertainties and risks, including those described in Item 1A of Part I (Risk Factors). The forward-looking statements speak only as of the date of this Annual Report and undue reliance should not be placed on these statements. We disclaim any obligation to update any forward-looking statements after the date of this Annual Report. The forward-looking statements do not include the potential impact of any mergers, acquisitions, divestitures, securities offerings or business combinations that may be announced or closed after the date hereof.

 

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PART I

 

Item 1. Business

Company Overview

We are a leading provider of enterprise applications software and related services designed and developed specifically for project-focused organizations. Our customers represent a wide range of industries, including architectural and engineering (“A/E”) firms, aerospace and defense and other federal government contractors, information technology services firms, consulting companies, discrete project manufacturing companies, grant-based not-for-profit organizations and government agencies, among others.

These project-focused organizations generate revenue from defined, discrete, customer-specific engagements or activities, rather than from mass-producing or distributing products, and they typically require specialized software to help them automate complex business processes around the engagement, execution and delivery of projects. Our software enables them to greatly enhance the visibility they have over all aspects of their operations by providing them increased control over their critical business processes, accurate project-specific financial information and real-time performance measurements surrounding the management and delivery of projects.

With our software applications, project-focused organizations can better measure business results, optimize performance and streamline operations, enabling them to win new business, operate more effectively and improve profitability. As of December 31, 2008, we had over 12,000 customers worldwide that spanned numerous project-focused industries and ranged in size from small organizations to large enterprises.

Our enterprise applications software products provide end-to-end business process functionality designed to streamline and manage the complex business processes of project-focused organizations. Our software solutions are “purpose-built” for businesses that plan, forecast and otherwise manage their business processes based on projects, as opposed to generic software solutions that are generally designed for repetitive, unit-production-style businesses. Our broad portfolio of software applications includes:

 

   

Comprehensive financial management solutions that integrate project control, financial processing and accounting functions, providing business owners and project managers with real-time access to information needed to track the revenue, costs and profitability associated with the performance of any project or activity;

 

   

Business applications that enable employees across project-focused organizations to more effectively manage and streamline business processes, including resource management, sales generation, human resources, corporate governance and performance management; and

 

   

Enterprise project management solutions to plan and manage project costs and schedules, measure earned value, evaluate, select and prioritize projects based on strategic business objectives and facilitate compliance with regulatory reporting requirements.

For the year ended December 31, 2008, our total revenue increased 4% to $289.4 million, and our net income increased 4% to $23.5 million over the prior year.

See Item 7, “Company Overview” and “History” for additional information related to the development of our business.

Industry Overview

Enterprise applications software provides organizations with the ability to streamline, automate and integrate a variety of business processes, including financial management, supply chain management, human

 

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capital management, project and resource management, customer relationship management, manufacturing and business performance management.

General purpose enterprise application vendors often are generally not able to meet the needs of project-focused businesses effectively because they lack project-focused capabilities and market functionality. Adapting and customizing general-purpose application software to meet the needs of project-focused businesses and organizations frequently results in significantly higher deployment costs and longer implementation times and can require increased levels of ongoing support. It can also result in missing or inaccurate metrics that are critical to driving better business performance.

The project-focused business software market is a separate category of enterprise applications software. The unique characteristics of project-focused organizations create special requirements for their business applications that frequently surpass the capabilities of generic applications software packages (for example, those designed primarily for manufacturing or financial services firms). Project-focused organizations require sophisticated, highly integrated software applications that automate end-to-end business processes across each stage of the project lifecycle. Project lifecycles vary significantly in length and complexity and can be difficult to forecast accurately. These projects need to be managed within the context of a company’s complete portfolio of existing and potential future projects.

Project-focused organizations often operate in environments or industries that pose unique challenges for their managers, who are frequently required to maintain specific business processes and accounting methodologies to meet contract requirements. For example, government contractors are subject to oversight by various U.S. federal government agencies, such as the Government Accountability Office (“GAO”) and the Defense Contract Audit Agency (“DCAA”), which have regulations that require these companies to have the ability to accurately maintain and audit specific project-based accounting records and to report on their compliance with government cost accounting requirements.

We believe that spending on software and technology related to the project-focused software business market will benefit from the increased regulatory environment that applies to government contractors, the growth in the services-based economy and because enterprise applications software has generally become more affordable and accessible to small and medium-sized businesses.

Our Competitive Strengths

Our key competitive strengths include the following:

 

   

Superior Value Proposition. Our software applications offer built-in project functionality at their core, making them faster and less costly to deploy, use and maintain when compared to general purpose enterprise applications. Our modular software architecture also enables our products to be deployed as a comprehensive solution or as individual applications, which provides our customers with the flexibility to select the applications that are relevant to them. Conversely, generic “one size fits all” applications software often requires extensive customization to add the specific functionality needed to manage complex project-focused organizations. This customization usually requires significantly more time and expense for the customer to install, operate and maintain the software.

 

   

Built-In Processes and Compliance. Project-focused organizations are often challenged with tracking and complying with intricate accounting policies and procedures, auditing requirements, contract terms and customer expectations. Our software is designed to make it easy for project managers and business executives to accurately monitor and measure specific project performance in detail with consistent application of business processes. Our applications also enable our customers to maintain and report compliance with contract requirements to government agencies and their customers.

 

   

Deep Domain Expertise. For more than 25 years, our exclusive focus on meeting the complex needs of project-focused organizations has provided us with extensive knowledge and industry expertise. Our

 

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significant subject matter expertise enables us to develop, implement, sell and support applications that are tailored to the existing and future needs of our customers.

 

   

Leading Market Position. We are a leading provider of enterprise applications software designed specifically for project-focused organizations. Our customer base includes leading federal information technology contractors, architectural and engineering firms, information technology services companies and aerospace and defense companies.

Our Business Strategy and Growth Opportunities

We plan to focus on the following objectives to enhance our position as a leading provider of enterprise applications software to project-focused organizations:

 

   

Expanding Penetration of Established Markets. We believe that our strong brand recognition and leading market position within the project-focused software market, particularly among the A/E and government contracting industries, provide us with significant opportunities to expand our sales within these markets.

 

   

Expanding Within Existing Customer Base. We are continuously looking to increase our sales to our existing customers, both by increasing the number of our applications utilized by them and by offering upgrades from our legacy applications to our current portfolio. We offer a broad range of project-focused software applications addressing a variety of business processes and regularly introduce additional functionality to further expand the capabilities of our applications as well as simplify and accelerate deployment of our existing products. We also introduce new products through internal development, acquisitions and partnering with third parties. We believe that customers experiencing the benefits afforded by our applications will look to us as they expand the scope of business processes that they seek to automate.

 

   

Expanding Our Network of Alliance Partners. We have a large network of alliance partners to assist our marketing, sales and product implementation efforts. This network includes various market participants in the enterprise applications software industry, such as software resellers, industry-specific vendors, software consultants, complementary technology providers, accounting and tax advisors and data and server infrastructure service providers. We plan to continue to expand this network of alliance partners to help penetrate new markets (domestically and internationally), increase our geographical sales force coverage and develop and maintain attractive software products.

 

   

Growing Our Presence in New Markets. We believe that our experience and success in attaining leadership in a number of key project-focused industries provides us with the opportunity to penetrate additional project-focused markets. We are building upon our track record of customer successes outside our established markets in industries such as consulting, information technology services, discrete project manufacturing and grant-based not-for-profits. We continue to develop additional industry-specific product functionality and are investing in targeted sales and marketing activities for new markets.

 

   

Growing Internationally. We intend to further expand our presence outside the United States, initially targeting countries where English is the primary business language. We believe project-focused organizations in Canada, the United Kingdom, Europe, the Middle East and the Asia-Pacific region are currently underserved for the products we offer. We have increased our international resources and capabilities since 2005 to help expand our international presence.

 

   

Making Strategic Acquisitions. Since October 2005, we have acquired six companies or product lines to broaden our product portfolio, expand our customer base, and add additional development, services and support resources. We plan to continue to pursue acquisitions that present a strong strategic fit with our existing operations and are consistent with our overall growth strategy. We also may target future

 

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acquisitions of varying sizes to expand or add product functionality and capabilities to our existing product portfolio, add new products or solutions to our product portfolio or further expand our services team.

Our Products and Services

Products

We provide integrated solutions that are designed to meet the evolving needs of project-focused organizations of various sizes and complexity. These organizations use our software to automate critical business processes across all phases of the project lifecycle, including business development, project selection and prioritization, resource allocation, project planning and scheduling, team collaboration, risk mitigation, accounting, reporting and analysis. Our portfolio of applications is designed to provide the following benefits to our customers:

 

   

Improving Business Decisions. Our applications enable decision makers to analyze multiple facets of their businesses in real-time and improve decision making by providing reporting, business intelligence, planning and analytical capabilities.

 

   

Optimizing Resources. Our applications enable automation of scheduling, allocation, budgeting and forecasting of resources dispersed across projects based on skills, location, availability and other attributes. As a result, resource planners can determine whether proposed fees are accurate, appropriate staff is available and utilized effectively, and projects are completed on time and on budget.

 

   

Winning New Business. Our customer relationship management applications enable our customers’ sales and marketing groups to generate demand for their services, build stronger customer relationships, manage their project pipeline, more accurately forecast revenue, automate proposals and create accurate estimates for proposed services.

 

   

Streamlining Business Operations. Our applications help organizations lower their transaction processing costs, improve billing processes, improve cash flow and reduce administrative burdens on employees through automation of a variety of key business processes, including time collection, expense management and employee self-service.

 

   

Facilitating Compliance and Governance. Our applications help organizations comply with complex accounting and auditing requirements and report compliance to government agencies and their customers and maintain standardized controls around key business processes.

 

   

Managing, Evaluating and Prioritizing Projects. Our applications enable our customers to efficiently manage project profitability, monitor project schedule and progress and evaluate, select and prioritize projects based on strategic business objectives. In addition, our earned value management applications enable organizations to plan and monitor the complex relationships between actual and forecasted project costs, schedules, physical progress and earned revenue.

 

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Our applications portfolio is comprised of four major product families, each designed to meet the specific functionality and scalability requirements of the project-focused industries and customers we serve. The following table outlines our major product families:

 

Product

  

Features and Functionality

  

Targeted Customers and

Value Proposition

Deltek Costpoint

  

•     Provides a comprehensive financial management solution that tracks, manages and reports on key aspects of a project: planning, estimating, proposals, budgets, expenses, indirect costs, purchasing, billing, regulatory compliance and materials management.

 

•     Includes a portfolio of business applications which deliver specialized functionality such as time collection, expense management, employee self-service, business performance management and human capital management.

 

•     Scales to support complex business processes and large numbers of concurrent users.

  

•     Sophisticated medium- and large-scale project-focused organizations such as government contractors and commercial project-focused organizations.

 

•     Customers purchase Costpoint to manage complex project portfolios and to facilitate compliance with detailed regulatory requirements. The Costpoint product family includes a broad set of scalable, integrated applications that streamline project-focused business processes across multiple disciplines and geographic locations.

Deltek Vision

  

•     An integrated solution that incorporates critical business functions, including project accounting, customer relationship management, resource management, time and expense capture and billing.

 

•     Provides decision makers with real-time information across all business processes, allowing them to identify project trends and risks to facilitate decision making, improve business performance and align users around common goals.

 

•     Highlights key performance indicators to determine project health and provides “one-click” access to project details needed to pinpoint and quickly resolve root causes of issues.

  

•     Professional services firms of all sizes, including A/E, information technology, design and management consulting firms.

 

•     Customers purchase Vision for its ability to automate end-to-end business processes for project-focused firms, its intuitive Web-based interface and its innovative capabilities such as mobile device support and executive dashboards.

 

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Product

  

Features and Functionality

  

Targeted Customers and

Value Proposition

Deltek GCS Premier   

•     Provides a robust accounting and project management solution that is cost effective, easy to use and helps firms comply with DCAA and other regulatory requirements.

 

•     Provides a full view of project and financial information, enabling firms to respond quickly and accurately to variations in plans and profit projections.

  

•     Small and medium-sized government contractors who find that the limitations of spreadsheets and traditional small-business accounting packages prevent them from meeting government audit requirements in a cost-effective way.

 

•     Customers purchase GCS for its ease of installation, built-in functionality and compliance with government regulations and reporting requirements and proven track record of customer success.

Enterprise Project Management Solutions   

•     Provides a comprehensive solution for enterprise project management.

 

•     Includes Deltek Cobra and Deltek MPM, market-leading systems for managing project costs, measuring earned value and analyzing budgets, actual costs and forecasts. With Cobra and MPM, businesses can measure the health and performance of projects and satisfy government-mandated regulations.

 

•     Includes Deltek Open Plan, an enterprise-grade project management system and Deltek wInsight, a leading tool for calculating, analyzing, sharing, consolidating and reporting on earned value data.

 

•     Our enterprise project management solutions offer risk management and reporting tools and support many industry-standard third party project scheduling tools.

  

•     Government contractors and professional services firms of all sizes that manage complex project portfolios. Our enterprise project management solutions help firms select the right projects, allocate resources across projects, mitigate risks and ultimately complete projects on time and on budget.

 

•     Customers purchase our enterprise project management software for its ability to offer end-to-end capabilities in project selection, planning, risk assessment, resource balancing and earned value management reporting.

Consulting Services

We employ a services team that provides a full range of consulting and technical services, from the early planning and design stages of an implementation to end-user training and after-implementation consulting services. Our services team is comprised of application consultants, project managers and technical applications specialists who work closely with our customers to implement and maintain our software solutions. Our primary consulting services offerings may be categorized into the following activities:

 

   

Solution architecture services that align our applications and software solutions with our customers’ business processes;

 

   

Application implementation services for our products, including business process design, software installation and configuration, application security, data conversion, integration with legacy applications and project management;

 

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Technology architecture design and optimization of our applications and related third party software and hardware configuration in our customers’ specific technology environments;

 

   

Project team and end-user training for our customers and partners in the functionality, configuration, administration and use of our products, including classroom training at various internal facilities, which we refer to as Deltek University; classroom training at customer sites; public seminars and webinars; and self-paced, self-study e-learning modules; and

 

   

After-implementation consulting services, including version upgrade consulting, system productivity review, industry best practice consulting, network/database maintenance services, acquisition integration support and long-term strategic business system planning.

Technical Maintenance and Support

We receive maintenance services fees from customers for product support, upgrades and other customer services. Our technical support organization focuses on answering questions, resolving issues and keeping our customers’ operations running efficiently. We offer technical support through in-person unlimited phone-based support, and we also provide 24x7 access to our web support system. Our comprehensive support programs also include ongoing product development and software updates, which includes minor enhancements, such as tax and other regulatory updates, as well as major updates such as new functionality and technology upgrades.

Our maintenance and support revenues are comprised of fees derived from new maintenance contracts associated with new software licenses and renewals of existing maintenance contracts. Initial annual maintenance fees are set as a fixed percentage of the software list price at the time of the initial license sale. Maintenance services are generally billed quarterly and paid in advance.

Customers

We consider a customer to be an organization that has purchased one or more licenses for our software, maintenance or support for those licenses, or services related to that software, pursuant to a written agreement or a “click-wrap” license that is activated upon installation.

As of December 31, 2008, we had over 12,000 customers worldwide representing a wide range of industries, including A/E firms, aerospace and defense and other federal government contractors, information technology services firms, consulting companies, discrete project manufacturing companies, grant-based not-for-profit organizations and government agencies, among others. Our software is used by organizations of various sizes, from small businesses to large enterprises. In 2008, 2007 and 2006, no single customer accounted for 5% or more of our total revenue.

Sales and Marketing

We sell our products primarily through our own sales force complemented by a growing network of indirect sales partners. Our direct sales force consists of experienced software sales professionals organized by customer type (for example, new vs. existing) under common management. Our sales teams all operate under a common sales methodology that focuses on the individual markets and customers we serve. Our network of alliance partners complements our direct sales efforts by selling our products to specific customer segments and providing implementation services and support to our customers. These alliance partners primarily serve our Vision product family, support our international sales activity and provide sales and implementation support for our products sold to the entry level government contracting and A/E markets. Our indirect sales channel is comprised of independent reseller partners who primarily cover entry level markets. In 2008, our direct sales force generated approximately 86% of our software license fee revenue and our indirect channel was responsible for the remaining 14%.

 

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In 2008, 2007 and 2006, more than 95% of our total revenue was generated from customers inside the United States, and less than 5% of our revenue was generated from international customers.

See Note 18, “Segment Information,” of our consolidated financial statements contained elsewhere in this Annual Report for additional information related to our revenue derived from international customers. See Item 2, “Properties” for information related to our long-lived assets located in the United States and in foreign countries.

We engage in a variety of marketing activities, including market research, product promotion and participation at industry conferences and trade shows, in order to generate additional revenue within key markets, optimize our market position, enhance lead generation, increase overall brand awareness and promote our new and existing products.

Strategic Alliances

An important component of our business strategy is to maintain and form alliances to better enable us to market, sell and implement our software and services. Our existing alliances encompass a wide variety of technology companies, business services firms, value-added resellers, accounting firms, specialized consulting firms, software vendors, business process outsourcers and other service providers. These alliances enable us to:

 

   

Provide infrastructure technologies on which our products operate, including database, hardware and platform solutions;

 

   

Provide applications that leverage our customers’ existing information technology infrastructure;

 

   

Provide applications that complement and integrate with our products;

 

   

Provide our customers with additional point solution functionality complementing their Deltek applications;

 

   

Sell our products into new markets and geographies;

 

   

Promote wider acceptance and adoption of our solutions;

 

   

Receive referrals from accounting, tax and related advisory service providers;

 

   

Provide managed services for our solutions;

 

   

Provide off-site hosting and/or managed infrastructure services;

 

   

Offer an alternative to our customers that would rather outsource systems administration and information technology management;

 

   

Provide products and business services that complement back-office systems, such as forms and checks; and

 

   

Offer additional products and features to our customer base.

Research and Development

Our research and development organization is structured to optimize our efforts around the design, development and release of our products. Specific disciplines within research and development include engineering, programming, quality assurance, product management, documentation, design and project management. Our research and development expenses were $45.8 million, $42.9 million, and $37.3 million in 2008, 2007 and 2006, respectively. As of December 31, 2008, we had approximately 375 employees in research and development, including approximately 220 in the United States and approximately 145 in Manila, Philippines. We are also able to increase our staffing capabilities on a project-by-project basis and as the need for additional development support arises by contracting with third-party resource providers.

 

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Technology

In the development of our software, we use broadly adopted, standards-based software technologies in order to create, maintain and enhance our project-focused solutions. Our developed solutions are generally both scalable and easily integrated into our customers’ existing information technology infrastructure. Our software design and engineering efforts are tailored to meet specific requirements of project-focused enterprises and provide the optimal experience for end-users who interact with our software to accomplish their job requirements.

The specific architecture and platform for each of our major product families is as follows:

 

   

The Vision application suite offers a full range of highly integrated applications, which incorporate critical business functions, including project accounting, customer relationship management, resource management, time and expense capture and billing. Vision is a completely web-native software application based on the latest Microsoft platform technologies, including Microsoft.NET (“.NET”), Microsoft SQL Server and the Microsoft Office System. Designed for small and medium-sized businesses, Vision is intended to minimize the technology burden on firms with limited information technology staff.

 

   

The Costpoint application suite is designed to automate and manage complex project-focused business processes for larger organizations. Built using Java 2 Platform, Enterprise Edition (“J2EE”) technology, Costpoint is highly configurable and modular, enabling our customers to support project-centric business processes and large workloads. Costpoint’s modular architecture supports seamless integration of business applications which deliver specialized functionality such as time collection, expense management, business performance management, employee self-service and human capital management.

 

   

GCS Premier is a turnkey Windows application designed for small and medium-sized government contracting organizations. Built using .NET platform technologies, this solution is designed to be easy to install, learn and maintain with minimal information technology support.

 

   

Our Enterprise Project Management Solutions product line provides a comprehensive enterprise project management solution for our customers, including earned value management throughout the project lifecycle. Generally built using .NET and other web-based technologies, these solutions integrate with our own applications as well as third party applications. This product line also includes a secure, web-based collaboration portal that provides the ability for distributed team members to collaborate on a project.

Our products are designed for easy deployment and integration with third party technologies within a company’s enterprise, including application servers, security systems and portals. Costpoint and Vision also provide web services interfaces and support for Service-Oriented Architectures to facilitate enhanced integration within the enterprise.

Competition

The global enterprise applications market for project-focused organizations is competitive. When competing for large enterprise customers with over 1,000 employees, we face the greatest competition from large, well-capitalized competitors such as Oracle and SAP. These substantially larger companies have recently focused a portion of their marketing and sales efforts to the middle market, in which we have a substantial market position. These larger vendors seek to influence customers’ purchase decisions by emphasizing their more comprehensive horizontal product portfolios, greater global presence and more sophisticated multi-national product capabilities. In addition, these vendors commonly bundle their enterprise resource planning solutions with a broader set of software applications, including middleware and database applications, and often significantly discount their individual solutions as part of a potentially larger sale.

 

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When competing for middle-market customers, which range in size from 100 to 1,000 employees, we often face competition from a few vendors that provide industry-specific solutions. Middle-market customers are typically searching for industry specific functionality, ease of deployment and a lower total cost of ownership with the ability to add functionality over time as their businesses continue to grow.

When competing in the small business segment, which consists of organizations with fewer than 100 employees, we face competition from certain providers of solutions aimed at smaller businesses. Customers in the small business segment typically are searching for solutions which provide out-of-the-box functionality that help automate business processes and improve operational efficiency.

Although some of our competitors are larger organizations, have greater marketing resources and offer a broader range of applications and infrastructure, we believe that we compete effectively on the basis of our superior value proposition, built-in compliance functionality, domain expertise, leading market position and highly referenceable customer base.

Intellectual Property

We rely upon a combination of copyright, trade secret and trademark laws and non-disclosure and other contractual arrangements to protect our proprietary rights. We provide our software to customers pursuant to license agreements, including shrink-wrap and click-wrap licenses. These measures may afford only limited protection of our intellectual property and proprietary rights associated with our software. We also enter into confidentiality agreements with employees and consultants involved in product development. We routinely require our employees, customers and potential business partners to enter into confidentiality agreements before we disclose any sensitive aspects of our software, technology or business plans.

We also incorporate a number of third party software products into our technology platform pursuant to relevant licenses. We use third party software, in certain cases, to meet the business requirements of our customers. We are not materially dependent upon these third-party software licenses, and we believe the licensed software is generally replaceable, by either licensing or purchasing similar software from another vendor or building the software functions ourselves.

Employees

As of December 31, 2008, we had approximately 1,240 employees worldwide, including approximately 200 in sales and marketing, 375 in product development, 500 in customer services and support and 170 in general and administrative positions. Of our approximately 1,240 worldwide employees, 1,050 were located in the United States and 190 were located internationally. None of our employees is represented by a union or is a party to a collective bargaining agreement.

Available Information

We make our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports available on our website (http://investor.deltek.com), free of charge, as soon as reasonably practicable after we have electronically filed or furnished such materials to the Securities and Exchange Commission. These filings are also available on the Securities and Exchange Commission’s website (www.sec.gov).

 

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Item 1A. Risk Factors

Risks Related to Our Business

Our business is exposed to the risk that adverse economic or financial conditions may reduce or defer the demand for project-based enterprise applications software and solutions.

The demand for project-based enterprise applications software and solutions will fluctuate based upon a variety of factors, including the business and financial condition of our customers and on economic and financial conditions, particularly as they affect the key sectors in which our customers operate. For the twelve months ended December 31, 2008, approximately 95% of our total revenue was derived from United States-based customers. Economic downturns or unfavorable changes in the financial and credit markets in the United States, including the current economic recession, could have an adverse effect on the operations, budgets and overall financial condition of our customers. As a result, our customers may reduce their overall spending on information technology, purchase fewer of our products or solutions, lengthen sales cycles, or delay, defer or cancel purchases of our products or solutions. Furthermore, our customers may be less able to timely finance or pay for the products which they have purchased or could be forced into a bankruptcy or restructuring process, which could limit our ability to recover amounts owed to us.

In addition, the financial and overall condition of third-party solutions providers and resellers of our products and solutions may be affected by adverse conditions in the economy and the financial and credit markets, which may adversely affect the sale of our products or solutions. For the twelve months ended December 31, 2008, resellers accounted for approximately 14% of our software license fee revenue.

We cannot predict the impact, timing, strength or duration of any economic slowdown or subsequent economic recovery, generally or in any specific industry, or of any disruption in the financial and credit markets. If the challenges in the financial and credit markets or the downturn in the economy or the markets in which we operate persist or worsen from present levels, our business, financial condition, cash flow, and results of operations could be materially adversely affected.

Our quarterly and annual operating results fluctuate, and as a result, we may fail to meet or exceed the expectations of securities analysts or investors, and our stock price could decline.

Historically, our operating results have varied from quarter to quarter and from year to year. Consequently, we believe that investors should not view our historical revenue and other operating results as accurate indicators of our future performance. A number of factors contribute to the variability in our revenue and other operating results, including the following:

 

   

global and domestic economic and financial conditions;

 

   

the number and timing of major customer contract wins, which tend to be unpredictable and which may disproportionately impact our software license fee revenue and operating results;

 

   

the highest concentration of our software license sales is typically in the last month of each quarter resulting in diminished predictability of our quarterly results;

 

   

the higher concentration of our software license sales in the last quarter of each fiscal year, resulting in diminished predictability of our annual results;

 

   

the discretionary nature of our customers’ purchases, varying budget cycles and amounts available to fund purchases resulting in varying demand for our products and services;

 

   

delays or deferrals by customers in the implementation of our products;

 

   

the level of product and price competition;

 

   

the length of our sales cycles;

 

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the timing of recognition of deferred revenue;

 

   

any significant change in the number of customers renewing or terminating maintenance agreements with us;

 

   

our ability to develop and market new software enhancements and products;

 

   

announcements of technological innovations by us or our competitors;

 

   

the relative mix of products and services we sell;

 

   

developments with respect to our intellectual property rights or those of our competitors; and

 

   

our ability to attract and retain qualified personnel.

As a result of these and other factors, our operating results may fluctuate significantly from period to period and may not meet or exceed the expectations of securities analysts or investors. In that event, the price of our common stock could be adversely affected.

If we are unable to effectively respond to organizational challenges as we grow, our revenues, profitability and business reputation could be materially adversely affected.

Between 2006 and 2008 our total revenue increased from $228.3 million to $289.4 million, or approximately 27%, and our software license fee revenue increased from $75.0 million to $77.4 million, or approximately 3%. During this same period, our total worldwide headcount has increased from approximately 1,040 employees at the end of 2006 to approximately 1,240 employees worldwide at December 31, 2008.

Past and future growth will continue to place significant demands on our management, financial and accounting systems, information technology systems and other components of our infrastructure. To meet our growth and related demands, we continue to invest in enhanced or new systems, including enhancements to our accounting, billing and information technology systems. We may also need to hire additional personnel, particularly in our sales, marketing, professional services, finance, administrative, legal and information technology groups.

If we do not correctly anticipate our organizational needs as we grow, if we fail to successfully implement our enhanced or new systems and other infrastructure improvements effectively and timely or if we encounter delays or unexpected costs in hiring, integrating, training and guiding our new employees, we may be unable to maintain or increase our revenues and profitability and our business reputation could be materially adversely affected.

If we develop material weaknesses in our internal controls in the future, these material weaknesses may impede our ability to produce timely and accurate financial statements, result in inaccurate financial reporting or restatements of our financial statements, subject our stock to delisting and materially harm our business reputation and stock price.

As a public company, we are required to file annual and quarterly periodic reports containing our financial statements with the Securities and Exchange Commission within prescribed time periods. As part of The NASDAQ Global Select Market listing requirements, we are also required to provide our periodic reports, or make them available, to our stockholders within prescribed time periods. In our 2007 Annual Report on Form 10-K, we identified and reported a number of deficiencies which we believed to be material weaknesses due to inadequate internal controls, and which have been remediated as of December 31, 2008. If we develop material weaknesses in our internal control in the future, the required audit or review of our financial statements by our registered independent public accounting firm may be delayed. In addition, we may not be able to produce reliable financial statements, file our financial statements as part of a periodic report in a timely manner with the Securities and Exchange Commission or comply with The NASDAQ Global Select Market listing requirements. If we are required to restate our financial statements in the future, any specific adjustment may cause our operating results and financial condition, as restated, on an overall basis to be materially impacted.

 

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If these events were to occur, our common stock listing on The NASDAQ Global Select Market could be suspended or terminated and, absent a waiver, we also would be in default under our credit agreement and our lenders could accelerate any obligation we have to them. We, or members of our management, could also be subject to investigation and sanction by the Securities and Exchange Commission and other regulatory authorities and to stockholder lawsuits. In addition, our stock price could decline, we could face significant unanticipated costs, management’s attention could be diverted and our business reputation could be materially harmed.

If we are unsuccessful in entering new market segments or further penetrating our existing market segments, our revenue or revenue growth could be materially adversely affected.

Our future results depend, in part, on our ability to successfully penetrate new markets, as well as to expand further into our existing markets. In order to grow our business, we may expand to other project-focused markets in which we may have less experience. Expanding into new markets requires both considerable investment and coordination of technical, financial, sales and marketing resources.

While we continually add functionality to our products to address the specific needs of both existing customers and new customers, we may be unsuccessful in developing appropriate or complete products, devoting sufficient resources or pursuing effective strategies for product development and marketing.

Our current or future products may not appeal to potential customers in new or existing markets. If we are unable to execute upon this element of our business strategy and expand into new markets or maintain and increase our market share in our existing markets, our revenue or revenue growth may be materially adversely affected.

If our existing customers do not buy additional software and services from us, our revenue and revenue growth could be materially adversely affected.

Our business model depends, in part, on the success of our efforts to maintain and increase sales to our existing customers. We have typically generated significant additional revenues from our installed customer base through the sale of additional new licenses, add-on applications, professional and maintenance services. We may be unsuccessful in maintaining or increasing sales to our existing customers for any number of reasons, including our inability to deploy new applications and features for our existing products or to introduce new products and services that are responsive to the business needs of our customers. If we fail to generate additional business from our customers, our revenue could grow at a slower rate or even decrease in material amounts.

If we do not successfully address the potential risks associated with our current or future international operations, we could experience increased costs or our operating results could be materially adversely affected.

We currently have customers in approximately 60 countries, including in the United Kingdom, Europe, the Middle East and the Asia-Pacific region, and we intend to expand our international markets. Currently, we have facilities in Canada, the Philippines, Australia and the United Kingdom.

Doing business internationally involves additional potential risks and challenges, including:

 

   

our inexperience in international markets and managing international operations, including a global workforce;

 

   

our ability to conform our products to local business practices or standards, including developing multi-lingual compatible software;

 

   

lack of brand awareness for our products;

 

   

competition from local and international software vendors;

 

   

disruptions in international communications resulting from damage to, or disruptions of, telecommunications links, gateways, cables or other systems;

 

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potential difficulties in collecting accounts receivable and longer collection periods;

 

   

unstable political and economic conditions, including in those countries in which development operations occur;

 

   

potentially higher operating costs due to local laws, regulations and market conditions;

 

   

foreign currency controls and fluctuations resulting from intercompany balances or arrangements associated with our anticipated growth internationally;

 

   

reduced protection for intellectual property rights in a number of countries where we may operate;

 

   

compliance with multiple, potentially conflicting and frequently changing governmental laws and regulations;

 

   

seasonality in business activity specific to various markets that is different than our recent historical trends;

 

   

potentially longer sales cycles;

 

   

potential restrictions on repatriation of earnings, including changes in the tax treatment of our international operations; and

 

   

potential restrictions on the export of technologies such as data security and encryption.

These risks could increase our costs or adversely affect our operating results.

If we are not successful in expanding our international business, our revenue growth could be materially adversely affected.

While we currently have customers in approximately 60 countries, we generated less than 5% of our total software license fee revenue in 2008 and 2007 from international markets. Our ability to expand internationally will require us to deliver product functionality and foreign language translations that are responsive to the needs of the international customers that we target. Additionally, we conduct our international business through our direct sales force and also through independent reseller partners. If we are unable to hire a qualified direct sales force, identify beneficial strategic alliance partners, or negotiate favorable alliance terms, our international growth may be hampered. Our ability to expand internationally also is dependent on our ability to raise brand recognition for our products in international markets. Our inability in the future to expand successfully in international markets could materially adversely affect our revenue growth. Our planned international expansion will require significant attention from our management as well as additional management and other resources in these markets.

We may be subject to integration and other risks from acquisition activities, which could materially impair our ability to realize the anticipated benefits of any acquisitions.

As part of our business strategy, we have acquired and may continue to acquire complementary businesses, technologies, product lines or services organizations. We may not realize the anticipated strategic or financial benefits of past or potential future acquisitions due to a variety of factors, including the following:

 

   

the potential difficulty integrating acquired products and technology into our software applications and business strategy;

 

   

the inability to achieve the desired revenue or cost synergies and benefits;

 

   

the difficulty in coordinating and integrating the sales, marketing, services, support and development activities of the acquired businesses, successfully cross selling products or services and managing the combined organizations;

 

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the potential difficulty retaining the strategic alliance partners of the acquired businesses on terms that are acceptable to us;

 

   

the potential difficulty retaining, integrating, training and motivating key employees of the acquired business;

 

   

the potential difficulty and cost of establishing and integrating controls, procedures and policies;

 

   

the potential difficulty in predicting and responding to issues related to product transition, including product development, distribution and customer support;

 

   

the possibility that customers of the acquired business may not support any changes associated with our ownership of the acquired business and that as a result they may transition to products offered by our competitors, or may attempt to renegotiate contract terms or relationships, including maintenance agreements;

 

   

the acquisition may result in unplanned disruptions to our ongoing business and may divert management from day-to-day operations due to a variety of factors, including integration issues;

 

   

the possibility that goodwill or other intangible assets may become impaired and will need to be written off in the future;

 

   

the potential failure of the due diligence process to identify significant issues, including product quality, architecture and development issues or legal and financial contingencies (including ongoing maintenance or service contract concerns); and

 

   

potential claims by third parties relating to intellectual property.

Impairment of our goodwill or intangible assets may adversely impact our results of operations.

We have acquired several businesses which, in aggregate, have resulted in goodwill valued at approximately $57.7 million and other purchased intangible assets valued at approximately $17.4 million as of December 31, 2008. This represents a significant portion of the assets recorded on our balance sheet. Goodwill and indefinite lived intangible assets are reviewed for impairment at least annually or sooner under certain circumstances. Other intangible assets that are deemed to have finite useful lives will continue to be amortized over their useful lives but must be reviewed for impairment when events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. Screening for and assessing whether impairment indicators exist, or if events or changes in circumstances have occurred, including market conditions, operating fundamentals, competition and general economic conditions, requires significant judgment by management.

We performed tests for impairment of goodwill and intangible assets and determined that there was no impairment as of December 31, 2008. However, there can be no assurances that a charge to operations will not occur in the event of a future impairment. The decrease in the price of our stock that has occurred and may occur in the future increases the potential that such an impairment may occur in the future. If an impairment is deemed to exist in the future, we would be required to write down the recorded value of these intangible assets to their then current estimated fair values. If a write down were to occur, it could materially adversely impact our results of operations and our stock price.

If our customers fail to renew or otherwise terminate their maintenance services agreements for our products, or if they are successful in renegotiating their agreements with us on terms that are unfavorable to us, our maintenance services revenues and our operating results could be materially harmed.

Our customers contract with us for ongoing product maintenance and support services. Historically, maintenance services revenues have represented a significant portion of our total revenue. Revenues from maintenance services constituted approximately 40% and 37% of our total revenue in 2008 and 2007, respectively.

 

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Our maintenance and support services are generally billed quarterly and are generally paid in advance. A customer may cancel its maintenance services agreement on 30 days’ notice prior to the beginning of the next scheduled period. At the end of a contract term, or at the time a customer has quarterly cancellation rights, a customer could seek a modification of its maintenance services agreement terms, including modifications that could result in lower maintenance fees or our providing additional services without associated fee increases.

A customer may also elect to terminate its maintenance services agreement and rely on its own in-house technical staff or other third party resources or may replace our software with a competitor’s product. If our maintenance services business declines due to a significant number of contract terminations, or if we are forced to offer pricing or other maintenance terms that are unfavorable to us, our maintenance services revenues and operating results could be materially adversely affected.

If we fail to forecast the timing of our revenues or expenses accurately, our operating results could be materially lower than anticipated.

We use a variety of factors in our forecasting and planning processes, including historical trends, recent customer history, expectations of customer buying decisions, customer implementation schedules and plans, analyses by our sales and service teams, maintenance renewal rates, our assessment of economic or market conditions and many other factors. While these analyses may provide us with some guidance in business planning and expense management, these estimates are inherently imprecise and may not accurately predict the timing of our revenues or expenses. A variation in any or all of these factors, particularly in light of prevailing financial or economic conditions, could cause us to inaccurately forecast our revenues or expenses and could result in expenditures without corresponding revenue. As a result, our revenues and our operating results could be materially lower than anticipated.

To maintain our competitive position, we may be forced to reduce prices or limit price increases, which could result in materially reduced revenue, margins or net income.

We face significant competition across all of our product lines from a variety of sources, including larger multi-national software companies, smaller start-up organizations, point solution application providers, specialized consulting organizations, systems integrators and internal information technology departments of existing or potential customers. Several competitors, such as Oracle, SAP AG and Microsoft, may have significantly greater financial, technical and marketing resources than we have.

Some of our competitors have refocused their marketing and sales efforts to the middle market in which we actively market our products. These competitors may implement increasingly aggressive marketing programs, product development plans and sales programs targeted toward our specific industry markets.

In addition, some of our competitors have well-established relationships with our current and prospective customers and with major accounting and consulting firms that may prefer to recommend those competitors over us. Our competitors may also seek to influence some customers’ purchase decisions by offering more comprehensive horizontal product portfolios, superior global presence and more sophisticated multi-national product capabilities.

To maintain our competitive position, we may be forced to reduce prices or limit price increases which could materially reduce our revenue, margins or net income.

 

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Our indebtedness or an inability to borrow additional amounts or refinance our debt could adversely affect our results of operations and financial condition and prevent us from fulfilling our financial obligations and business objectives.

As of December 31, 2008, we had approximately $192.8 million of outstanding debt under our credit agreement and term loan at interest rates which are subject to market fluctuation. Our indebtedness and related obligations could have important future consequences to us, such as:

 

   

potentially limiting our ability to obtain additional financing to fund growth, working capital, capital expenditures or to meet existing debt service or other cash requirements;

 

   

exposing us to the risk of increased interest costs if the underlying interest rates rise significantly;

 

   

potentially limiting our ability to invest operating cash flow in our business due to existing debt service requirements; or

 

   

increasing our vulnerability to economic downturns and changing market conditions.

Our ability to meet our existing debt service obligations, borrow additional funds or refinance our existing debt will depend on many factors, including prevailing financial or economic conditions, and our past performance and our financial and operational outlook. As currently scheduled, we will make a principal payment of $0.5 million on March 31, 2009 and a mandatory prepayment of $9.7 million from our annual excess cash flow. Thereafter, we will make a principal payment of $0.5 million on June 30, 2010, scheduled principal payments of $45.5 million at the end of each of the quarters ending September 30, 2010, December 31, 2010, and March 31, 2011, and a scheduled principal payment representing the balance due on April 22, 2011, the final maturity date. If we do not have enough cash to satisfy our debt service obligations, we may be required to refinance all or part of our existing debt, sell assets or reduce our spending. At any given time, we may not be able to refinance our debt or sell assets on terms acceptable to us or at all.

If we are unable to comply with the covenants or restrictions contained in our credit agreement, our lenders could declare all amounts outstanding under the credit agreement to be due and payable, which could materially adversely affect our financial condition.

Our credit agreement governing our term loan and revolving credit facility contains covenants that, among other things, restrict our and our subsidiaries’ ability to dispose of assets, incur additional indebtedness, incur guarantee obligations, pay dividends, create liens on assets, enter into sale and leaseback transactions, make investments, loans or advances, make acquisitions, engage in mergers or consolidations, change the business conducted by us and engage in certain transactions with affiliates.

Our credit agreement also requires us to comply with certain financial ratios related to fixed charge coverage, interest coverage and leverage ratios. While we have historically complied with our financial ratio covenants, we may not be able to comply with these financial covenants in the future, which could limit our ability to react to market conditions or meet ongoing capital needs. Our ability to comply with the covenants and restrictions contained in our credit agreement may be adversely affected by economic, financial, industry or other conditions, some of which may be beyond our control. While we have historically complied with the covenant requiring us to submit audited annual financial statements within specified time periods, we relied on the 30-day grace period provided under the credit agreement to submit audited annual financial statements for the year ended December 31, 2006.

The potential breach of any of the covenants or restrictions contained in our credit agreement, unless cured within the applicable grace period, could result in a default under the credit agreement that would permit the lenders to declare all amounts outstanding to be due and payable, together with accrued and unpaid interest. In

 

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such an event, we may not have sufficient assets to repay such indebtedness. As a result, any default could have serious consequences to our financial condition.

If we are required to defer recognition of software license fee revenue for a significant period of time after entering into a license agreement, our operating results could be materially adversely affected in any particular quarter.

We may be required to defer recognition of software license fee revenue from a license agreement with a customer if, for example:

 

   

the software transactions include both currently deliverable software products and software products that are under development or require other undeliverable elements;

 

   

a particular customer requires services that include significant modifications, customizations or complex interfaces that could delay product delivery or acceptance;

 

   

the software transactions involve customer acceptance criteria;

 

   

there are identified product-related issues, such as known defects;

 

   

the software transactions involve payment terms that are longer than our standard payment terms or fees that depend upon future contingencies; or

 

   

under the applicable accounting requirements, we are unable to separate recognition of software license fee revenue from maintenance or other services-related revenue, thereby requiring us to defer software license fee revenue recognition until the services are provided.

Deferral of software license fee revenue may result in significant timing differences between the completion of a sale and the actual recognition of the revenue related to that sale. However, we generally recognize commission and other sales-related expenses associated with sales at the time they are incurred. As a result, if we are required to defer a significant amount of revenue, our operating results in any quarter could be materially adversely affected.

If our existing and potential customers seek to acquire software on a subscription basis, and if to meet this customer preference, we need to offer our products on a subscription fee basis in the future, our software license fee revenue and cash flow could be materially reduced.

Our software license fee revenues are generally derived from the sale of perpetual licenses for software products. Each license fee generally is paid on a one-time basis either on a per-seat basis or as an enterprise license, and related revenue is generally recognized at the time the license is executed. Nearly all of our software license fee revenue for 2008 and 2007 was generated from the sale of perpetual licenses.

Under our business model, our software license fees are typically invoiced and recognized as revenue immediately upon delivery, even though the customer’s use of the software product occurs over time. If in the future our customers seek to acquire software on a subscription basis, we may need to offer our products on a subscription basis. We may not successfully price, market or otherwise execute a subscription-based model. If we operate our software business in whole or in part on a subscription fee basis, we could experience materially reduced software license fee revenues and cash flows associated with the transition to a subscription based licensing model.

If our investments in product development require greater resources than anticipated, our operating margins could be adversely affected.

We expect to continue to commit significant resources to maintain and improve our existing products and to develop new products. For example, our product development expenses were approximately $45.8 million, or

 

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16% of revenue, in 2008, and approximately $42.9 million, or 15% of revenue, in 2007. Our current and future product development efforts may require greater resources than we expect, or achieve the market acceptance that we expect and, as a result, we may not achieve margins we anticipate.

We may also be required to price our product enhancements, product features or new products at levels below those anticipated during the product development stage, which could result in lower revenues and margins for that product than we originally anticipated.

We also may experience unforeseen or unavoidable delays in delivering product enhancements, product features or new products due to factors within or outside of our control. We may encounter unforeseen or unavoidable defects or quality control issues when developing product enhancements, product features or new products, which may require additional expenditures to resolve such issues and may affect the reputation our products have for quality and reliability. If we incur greater expenditures than we expect for our product development efforts, or if our products do not succeed, our revenues or margins could be materially adversely affected.

If we fail to adapt to changing technological and market trends or changing customer requirements, our market share could decline and our sales and profitability could be materially adversely affected.

The business application software market is characterized by rapidly changing technologies, evolving industry standards, frequent new product introductions and short product lifecycles. The development of new technologically advanced software products is a complex and uncertain process requiring high levels of innovation, as well as accurate anticipation of technological and market trends.

Our future success will largely depend upon our ability to develop and introduce timely new products and product features in order to maintain or enhance our competitive position. The introduction of enhanced or new products requires us to manage the transition from, or integration with, older products in order to minimize disruption in sales of existing products and to manage the overall process in a cost-effective manner. If we do not successfully anticipate changing technological and market trends or changing customer requirements and we fail to enhance or develop products timely, effectively and in a cost-effective manner, our ability to retain or increase market share may be harmed, and our sales and profitability could be materially adversely affected.

If our existing or prospective customers prefer an application software architecture other than the standards-based technology and platforms upon which we build or support our products, or if we fail to develop our new product enhancements or products to be compatible with the application software architecture preferred by existing and prospective customers, we may not be able to compete effectively, and our software license fee revenue could be materially reduced.

Many of our customers operate their information technology infrastructure on standards-based application software platforms such as J2EE and .NET. A significant portion of our product development is devoted to enhancing our products that deploy these and other standards-based application software platforms.

If our products are not compatible with future technologies and platforms that achieve industry standard status, we will be required to spend material development resources to develop products or product enhancements that are deployable on these platforms. If we are unsuccessful in developing these products or product enhancements, we may lose existing customers or be unable to attract prospective customers.

In addition, our customers may choose competing products other than our offerings based upon their preference for a new or different standards-based application software than the software or platforms on which our products operate or are supported. Any of these adverse developments could injure our competitive position and could cause our software license fee revenue to be materially adversely affected.

 

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Our software products are built upon and depend upon operating platforms and software developed and supplied by third parties. As a result, changes in the availability, features and price of, or support for, any of these third party platforms or software, including as a result of the platforms or software being acquired by a competitor, could materially increase our costs, divert resources and materially adversely affect our competitive position and software license fee revenue.

Our software products are built upon and depend upon operating platforms and software developed by third party providers. We license from several software providers technologies that are incorporated into our products. Our software may also be integrated with third party vendor products for the purpose of providing or enhancing necessary functionality.

If any of these operating platforms or software products ceases to be supported by its third party provider, or if we lose any technology license for software that is incorporated into our products, including as a result of the platforms or software being acquired by a competitor we may need to devote increased management and financial resources to migrate our software products to an alternative operating platform, identify and license equivalent technology or integrate our software products with an alternative third party vendor product. In addition, if a provider enhances its product in a manner that prevents us from timely adapting our products to the enhancement, we may lose our competitive advantage, and our existing customers may migrate to a competitor’s product.

Third party providers may also not remain in business, cooperate with us to support our software products or make their product available to us on commercially reasonable terms or provide an effective substitute product to us and our customers. Any of these adverse developments could materially increase our costs and materially adversely affect our competitive position and software license fee revenue.

If we lose access to, or fail to obtain, third party software development tools on which our product development efforts depend, we may be unable to develop additional applications and functionality, and our ability to maintain our existing applications may be diminished, which may cause us to incur materially increased costs, reduced margins or lower revenue.

We license software development tools from third parties and use those tools in the development of our products. Consequently, we depend upon third parties’ abilities to deliver quality products, correct errors, support their current products, develop new and enhanced products on a timely and cost-effective basis and respond to emerging industry standards and other technological changes. If any of these third party development tools become unavailable, if we are unable to maintain or renegotiate our licenses with third parties to use the required development tools, or if third party developers fail to adequately support or enhance the tools, we may be forced to establish relationships with alternative third party providers and to rewrite our products using different development tools. We may be unable to obtain other development tools with comparable functionality from other third parties on reasonable terms or in a timely fashion. In addition, we may not be able to complete the development of our products using different development tools, or we may encounter substantial delays in doing so. If we do not adequately replace these software development tools in a timely manner, we may incur additional costs, which may materially reduce our margins or revenue.

If our products fail to perform properly due to undetected defects or similar problems, and if we fail to develop an enhancement to resolve any defect or other software problem, we could be subject to product liability, performance or warranty claims and incur material costs, which could damage our reputation, result in a potential loss of customer confidence and adversely impact our sales, revenue and operating results.

Our software applications are complex and, as a result, defects or other software problems may be found during development, product testing, implementation or deployment. In the past, we have encountered defects in our products as they are introduced or enhanced. If our software contains defects or other software problems:

 

   

we may not be paid;

 

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a customer may bring a warranty claim against us;

 

   

a customer may bring a claim for their losses caused by our product failure;

 

   

we may face a delay or loss in the market acceptance of our products;

 

   

we may incur unexpected expenses and diversion of resources to remedy the problem;

 

   

our reputation and competitive position may be damaged; and

 

   

significant customer relations problems may result.

Our customers use our software together with software and hardware applications and products from other companies. As a result, when problems occur, it may be difficult to determine the cause of the problem, and our software, even when not the ultimate cause of the problem, may be misidentified as the source of the problem. The existence of defects or other software problems, even when our software is not the source of the problem, might cause us to incur significant costs, divert the attention of our technical personnel from our product development efforts for a lengthy time period, require extensive consulting resources, harm our reputation and cause significant customer relations problems.

If our products fail to perform properly, we may face liability claims notwithstanding that our standard customer agreements contain limitations of liability provisions. A material claim or lawsuit against us could result in significant legal expense, harm our reputation, damage our customer relations, divert management’s attention from our business and expose us to the payment of material damages or settlement amounts. In addition, interruption in the functionality of our products or other defects could cause us to lose new sales and materially adversely affect our license and maintenance services revenues and our operating results.

A breach in the security of our software could harm our reputation and subject us to material claims, which could materially harm our operating results and financial condition.

Fundamental to the use of enterprise application software, including our software, is the ability to securely process, collect, analyze, store and transmit information. Third parties may attempt to breach the security of our applications, third party applications upon which our products are based or those of our customers and their databases. In addition, computer viruses, physical or electronic break-ins and similar disruptions could lead to interruptions and delays in customer processing or a loss of a customer’s data.

We may be responsible, and liable, to our customers for certain breaches in the security of our software products. Any security breaches for which we are, or are perceived to be, responsible, in whole or in part, could subject us to claims, which could harm our reputation and result in significant costs. Any imposition of liability, particularly liability that is not covered by insurance or is in excess of insurance coverage, could materially harm our operating results and financial condition. Computer viruses, physical or electronic break-ins and similar disruptions could lead to interruptions and delays in customer processing or a loss of data. We might be required to expend significant financial and other resources to protect further against security breaches or to rectify problems caused by any security breach.

If we are not able to retain existing employees or hire qualified new employees, our business could suffer, and we may not be able to execute our business strategy.

Our business strategy and future success depends, in part, upon our ability to retain and attract highly skilled managerial, professional service, sales, development, marketing, accounting, administrative and infrastructure-related personnel. The market for these highly skilled employees is competitive in the geographies in which we operate. Our business could be adversely affected if we are unable to retain qualified employees or recruit qualified personnel in a timely fashion, or if we are required to incur unexpected increases in compensation costs

 

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to retain key employees or meet our hiring goals. If we are not able to retain and attract the personnel we require, it could be more difficult for us to sell and develop our products and services and execute our business strategy, which could lead to a material shortfall in our anticipated results. Furthermore, if we fail to manage these costs effectively, our operating results could be materially adversely affected.

The loss of key members of our senior management team could disrupt the management of our business and materially impair the success of our business.

We believe that our success depends on the continued contributions of the members of our senior management team. We rely on our executive officers and other key managers for the successful performance of our business. The loss of the services of one or more of our executive officers or key managers could have an adverse effect on our operating results and financial condition. Although we have employment arrangements with several members of our senior management team, none of these arrangements prevents any of our employees from leaving us. The loss of any member of our senior management team could materially impair our ability to perform successfully, including achieving satisfactory operating results and maintaining our growth.

If we are not able to protect our intellectual property and other proprietary rights, we may not be able to compete effectively, and our software license fee revenue could be materially adversely affected.

Our success and ability to compete is dependent in significant degree on our intellectual property, particularly our proprietary software. We rely on a combination of copyrights, trademarks, trade secrets, confidentiality procedures and contractual provisions to establish and protect our rights in our software and other intellectual property. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy, design around or reverse engineer aspects of our products or to obtain and use information that we regard as proprietary.

Our competitors may independently develop software that is substantially equivalent or superior to our software. Furthermore, we have no patents, and existing copyright law affords only limited protection for our software and may not protect such software in the event competitors independently develop products similar to ours.

We take significant measures to protect the secrecy of our proprietary source code. Despite these measures, unauthorized disclosure of some of or all of our source code could occur. Such unauthorized disclosure could potentially cause our source code to lose intellectual property protection and make it easier for third parties to compete with our products by copying their functionality, structure or operation.

In addition, the laws of some countries may not protect our proprietary rights to the same extent as do the laws of the United States. Therefore, we may not be able to protect our proprietary software against unauthorized third party copying or use, which could adversely affect our competitive position and our software license fee revenue. Any litigation to protect our proprietary rights could be time consuming and expensive to prosecute or resolve, result in substantial diversion of management attention and resources, and could be unsuccessful, which could result in the loss of material intellectual property and other proprietary rights.

Potential future claims that we infringe upon third parties’ intellectual property rights could be costly and time-consuming to defend or settle or result in the loss of significant products, any of which could materially adversely impact our revenue and operating results.

Third parties could claim that we have infringed upon their intellectual property rights. Such claims, whether or not they have merit, could be time consuming to defend, result in costly litigation, divert our management’s attention and resources from day-to-day operations or cause significant delays in our delivery or implementation of our products.

 

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We could also be required to cease to develop, use or market infringing or allegedly infringing products, to develop non-infringing products or to obtain licenses to use infringing or allegedly infringing technology. We may not be able to develop alternative software or to obtain such licenses or, if a license is obtainable, we cannot be certain that the terms of such license would be commercially acceptable.

If a claim of infringement were threatened or brought against us, and if we were unable to license the infringing or allegedly infringing product or develop or license substitute software, or were required to license such software at a high royalty, our revenue and operating results could be materially adversely affected.

In addition, we agree, from time to time, to indemnify our customers against certain claims that our software infringes upon the intellectual property rights of others. We could incur substantial costs in defending our customers against such claims.

Catastrophic events may disrupt our business and could result in materially increased expenses, reduced revenues and profitability and impaired customer relationships.

We are a highly automated business and rely on our network infrastructure and enterprise applications and internal technology systems for our development, marketing, operational, support and sales activities. A disruption or failure of any or all of these systems in the event of a major telecommunications failure, cyber-attack, terrorist attack, fire, earthquake, severe weather conditions or other catastrophic event could cause system interruptions, delays in our product development and loss of critical data, could prevent us from fulfilling our customer contracts, change customer purchasing intentions or expectations, create delays or postponements of scheduled implementations or other services engagements or otherwise disrupt our relationships with current or potential customers.

The disaster recovery plans and backup systems that we have in place may not be effective in addressing a catastrophic event that results in the destruction or disruption of any of our critical business or information technology systems. As a result of any of these events, we may not be able to conduct normal business operations and may be required to incur significant expenses in order to resume normal business operations. As a result, our revenues and profitability may be materially adversely affected.

Our revenues are partially dependent upon federal government contractors and their need for compliance with Federal Government contract accounting and reporting standards. Our failure to anticipate or adapt timely to changes in those standards could cause us to lose our government contractor customers and materially adversely affect our revenue generated from these customers.

We derive a significant portion of our revenues from federal government contractors. In 2008 and 2007, over half of our software license fee revenue was generated from federal government contractor customers. Our government contractor customers utilize our Deltek Costpoint, Deltek GCS Premier or our enterprise project management applications to manage their contracts with the federal government in a manner that accounts for expenditures in accordance with the federal government contracting accounting standards.

For example, a key function of our Costpoint application is to enable government contractors to enter, review and organize accounting data in a manner that is compliant with applicable laws and regulations and to easily demonstrate compliance with those laws and regulations. If the Federal Government alters these compliance standards, or if there were any significant problem with the functionality of our software from a compliance perspective, we may be required to modify or enhance our software products to satisfy any new or altered compliance standards. Our inability to effectively and efficiently modify our applications to resolve any compliance issue could result in the loss of our government contract customers and materially adversely impact our revenue from these customers.

 

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Significant reductions in the Federal Government’s budget or changes in the spending priorities for that budget could materially reduce government contractors’ demand for our products and services.

The Federal Government’s budget is subject to annual renewal and may be increased or decreased, whether on an overall basis or on a basis that could disproportionately injure our customers. Any significant downsizing, consolidation or insolvency of our Federal Government contractor customers resulting from changes in procurement policies, budget reductions, loss of government contracts, delays in contract awards or other similar procurement obstacles could materially adversely impact our customers’ demand for our software products and related services and maintenance.

Risks Related to Ownership of Our Common Stock

Our stock price has been volatile and could continue to remain volatile for a variety of reasons, resulting in a substantial loss on your investment.

The stock markets generally have experienced extreme and increasing volatility, often unrelated to the operating performance of the individual companies whose securities are traded publicly. Broad market fluctuations and general economic and financial conditions may materially adversely affect the trading price of our common stock.

Significant price fluctuations in our common stock also could result from a variety of other factors, including:

 

   

actual or anticipated fluctuations in our operating results or financial condition;

 

   

our competitors’ announcements of significant contracts, acquisitions or strategic investments;

 

   

changes in our growth rates or our competitors’ growth rates;

 

   

conditions of the project-focused software industry; and

 

   

any other factor described in this “Risk Factors” section of this Annual Report.

In addition, if the market value of our common stock falls below the book value of our assets, we could be forced to recognize an impairment of our goodwill or other assets. If this were to occur, our operating results would be adversely affected and the price of our common stock could be negatively impacted.

If securities analysts issue unfavorable commentary about us or our industry or downgrade our common stock, or if they do not publish research reports about our company and our industry in the future, the price of our common stock could decline or be volatile.

The trading market for our common stock will depend in part on the research and reports that securities analysts publish about our company and our industry. We do not control these analysts. One or more analysts could downgrade our stock or issue other negative commentary about our company or our industry. In addition, we may be unable or slow to attract or retain research coverage, and the analysts who publish information about our common stock have had relatively little recent experience with us, which could affect their ability to accurately forecast our results or make it more likely that we fail to meet their estimates. Alternatively, if one or more of these analysts cease coverage of our company, we could lose visibility in the market. Any one or more of these factors, several of which have occurred at one or more points in time since we became a public company, could cause the trading price for our stock to decline or be volatile.

Future sales of our common stock by existing stockholders could cause our stock price to decline.

We have 43,498,610 shares of common stock outstanding as of March 11, 2009. If New Mountain Partners II, L.P., New Mountain Affiliated Investors II, L.P., and Allegheny New Mountain Partners, L.P. (collectively, the “New Mountain Funds”), members of our executive team and other employees who are party to a

 

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stockholders agreement that allows them to sell proportionately with our controlling stockholder, sell substantial amounts of our common stock in the public market or if the market perceives that stockholders may sell shares of common stock, the market price of our common stock could decrease significantly.

The New Mountain Funds have the right, subject to certain conditions, to require us to register the sale of their shares under the federal securities laws. If this right is exercised, holders of other shares and, in certain circumstances, stock options may sell their shares alongside the New Mountain Funds, which could cause the prevailing market price of our common stock to decline. Approximately 34 million shares of our common stock (and all shares of common stock underlying options outstanding under our 2005 Stock Option Plan and certain shares of common stock underlying options and restricted stock outstanding under our 2007 Stock Award and Incentive Plan) are, directly or indirectly, subject to a registration rights agreement.

We have also filed one or more registration statements with the Securities and Exchange Commission covering shares subject to options and restricted stock outstanding under our 2005 Stock Option Plan and 2007 Plan and shares reserved for issuance under our 2007 Plan and our Employee Stock Purchase Plan.

A decline in the trading price of our common stock due to the occurrence of any future sales might impede our ability to raise capital through the issuance of additional shares of our common stock or other equity securities and may cause you to lose part or all of your investment in our shares of common stock.

Our largest stockholders and their affiliates have substantial control over us and this could limit your ability to influence the outcome of key transactions, including any change of control.

Our largest stockholders, the New Mountain Funds, own, in the aggregate, approximately 58% of our outstanding common stock and 100% of our Class A common stock. As a result, the New Mountain Funds are able to control all matters requiring approval by our stockholders, including the election of directors and the approval of mergers or other significant corporate transactions. The New Mountain Funds will retain the right to elect a majority of our directors so long as they own our Class A common stock and at least one-third of our outstanding common stock.

In addition, the New Mountain Funds will have the benefit of the rights conferred by the investor rights agreement, and New Mountain Capital, L.L.C. will continue to have certain rights under their advisory agreement. These rights include the ability to elect a majority of the members of the board of directors and control all matters requiring stockholder approval, including any transaction subject to stockholder approval (such as a merger or a sale of substantially all of our assets), as long as they collectively own a majority of the outstanding shares of our Class A common stock and at least one-third of the outstanding shares of our common stock.

The New Mountain Funds are also entitled to collect a transaction fee, on a transaction by transaction basis, equal to 2% of the transaction value of each significant transaction exceeding $25 million in value directly or indirectly involving us or any of our controlled affiliates, including acquisitions, dispositions, mergers or other similar transactions, debt, equity or other financing transactions, public or private offerings of our securities and joint ventures, partnerships and minority investments. The right to collect transaction fees continues until the New Mountain Funds cease to beneficially own at least 15% of our outstanding common stock or a change of control occurs.

The New Mountain Funds may have interests that differ from your interests, and they may vote in a way with which you disagree and that may be adverse to your interests. The concentration of ownership of our common stock may have the effect of delaying, preventing or deterring a change of control of our company, could deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of our company and may adversely affect the market price of our common stock.

 

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You do not have the same protections available to other stockholders of NASDAQ-listed companies because we are a “controlled company” within the meaning of The NASDAQ Global Select Market’s standards and, as a result, qualify for, and may rely on, exemptions from several corporate governance requirements.

Our controlling stockholders, the New Mountain Funds, control a majority of our outstanding common stock and have the ability to elect a majority of our board of directors. As a result, we are a “controlled company” within the meaning of the rules governing companies with stock quoted on The NASDAQ Global Select Market. Under these rules, a company as to which an individual, a group or another company holds more than 50% of the voting power is considered a “controlled company” and is exempt from several corporate governance requirements, including requirements that:

 

   

a majority of the board of directors consist of independent directors;

 

   

compensation of officers be determined or recommended to the board of directors by a majority of its independent directors or by a compensation committee that is composed entirely of independent directors; and

 

   

director nominees be selected or recommended for election by a majority of the independent directors or by a nominating committee that is composed entirely of independent directors.

We have availed ourselves of these exemptions. Accordingly, you do not have the same protections afforded to stockholders of other companies that are subject to all of The NASDAQ Global Select Market corporate governance requirements as long as the New Mountain Funds own a majority of our outstanding common stock.

Anti-takeover provisions in our charter documents, Delaware law and our shareholders’ agreement could discourage, delay or prevent a change in control of our company and may adversely affect the trading price of our common stock.

We are a Delaware corporation, and the anti-takeover provisions of the Delaware General Corporation Law may discourage, delay or prevent a change in control by prohibiting us (as a public company with common stock listed on The NASDAQ Global Select Market) from engaging in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder, even if a change in control would be beneficial to our existing stockholders. In addition, our certificate of incorporation and bylaws may discourage, delay or prevent a change in our management or control over us that stockholders may consider favorable. Our certificate of incorporation and bylaws:

 

   

authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to thwart a takeover attempt;

 

   

provide the New Mountain Funds, through their stock ownership, with the ability to elect a majority of our directors if they beneficially own one-third or more of our common stock;

 

   

do not provide for cumulative voting;

 

   

provide that vacancies on the board of directors, including newly created directorships, may be filled only by a majority vote of directors then in office (subject to the rights of the Class A stockholders);

 

   

limit the calling of special meetings of stockholders;

 

   

permit stockholder action by written consent if the New Mountain Funds and its affiliates own one-third or more of our common stock;

 

   

require supermajority stockholder voting to effect certain amendments to our certificate of incorporation; and

 

   

require stockholders to provide advance notice of new business proposals and director nominations under specific procedures.

 

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In addition, certain provisions of our shareholders’ agreement require that certain covered persons (as defined in the shareholders’ agreement) vote their shares of our common stock in favor of certain transactions in which the New Mountain Funds propose to sell all or any of portion of their shares of our common stock or in which we propose to sell or otherwise transfer for value all or substantially all of the stock, assets or business of the company.

 

Item 2. Properties

Our corporate headquarters are located in Herndon, Virginia, where we lease approximately 133,000 square feet of space under leases and subleases expiring in 2011 and 2012. In addition, we have offices in California, Colorado, Massachusetts, Minnesota, Oregon and Texas. Internationally, our offices are located in Australia, Canada, the Philippines and the United Kingdom. As of the years ended December 31, 2008, 2007, and 2006, $1.5 million, $1.5 million, and $0.6 million, respectively, of our total long-lived assets of $97.4 million, $82.8 million, and $76.1 million, respectively, were held outside of the United States.

 

Item 3. Legal Proceedings

We are involved in various legal proceedings from time to time that are incidental to the ordinary conduct of our business. We are not currently involved in any legal proceeding in which the ultimate outcome, in our judgment based on information currently available, is likely to have a material adverse effect on our business, financial condition or results of operations.

 

Item 4. Submission of Matters to a Vote of Security Holders

No matter was submitted to a vote of our stockholders during the fourth quarter of the year ended December 31, 2008.

 

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PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

We do not have any plan or program for the repurchase of our common stock and did not repurchase any shares of our common stock during the year ended December 31, 2008.

The following table sets forth purchases of our common stock in open-market transactions by our controlling shareholder, the New Mountain Funds, during the fourth quarter ended December 31, 2008:

 

     (a)    (b)     (c)    (d)

Period

   Total Number of
Shares Purchased
   Average Price
Paid Per
Share
    Total Number
of Shares
Purchased as
Part of Publicly
Announced Plans
or Programs
   Maximum Number
of Shares that May
Yet Be Purchased
Under the Plans or
Programs

October 1-31, 2008

   —        —       N/A    N/A

November 1-30, 2008

   80,283    $ 4.0475 (1)   N/A    N/A

December 1-31, 2008

   —        —       N/A    N/A

 

(1) Note: These transactions were reported by the New Mountain Funds (comprised of New Mountain Partners II, L.P., New Mountain Affiliated Investors II, L.P. and Allegheny New Mountain Partners, L.P.) on Form 4 reports filed with the Securities and Exchange Commission on November 20, 2008, November 24, 2008, November 26, 2008 and December 1, 2008.

Our common stock is traded on The NASDAQ Global Select Market under the symbol “PROJ.”

The following table sets forth the high and low sales prices for our common stock for the periods indicated as reported by The NASDAQ Global Select Market:

 

     High    Low

Year ended December 31, 2008:

     

Fourth Quarter

   $ 6.79    $ 3.06

Third Quarter

     9.05      5.14

Second Quarter

     14.04      7.36

First Quarter

     15.70      11.65

Year ended December 31, 2007:

     

Fourth Quarter

   $ 18.63    $ 13.55

Third Quarter

     —        —  

Second Quarter

     —        —  

First Quarter

     —        —  

There is no established public trading market for our Class A common stock. As of March 11, 2009, there were 60 stockholders of record of our common stock and three stockholders of record of our Class A common stock.

Our Class A common stock does not carry any general voting rights, dividend entitlement or liquidation preference, but it carries certain rights to designate up to a majority of the members of our board of directors. As a result of this stock ownership and other arrangements, we are deemed to be a “controlled company” under the rules established by The NASDAQ Global Select Market and qualify for, and rely on, the “controlled company” exception to the board of directors and committee composition requirements regarding independence under the rules of The NASDAQ Global Select Market.

 

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We did not pay cash dividends in 2008 or 2007 and we currently do not intend to pay cash dividends. Our investor rights agreement requires the prior written consent of our controlling stockholder, the New Mountain Funds, if we wish to pay or declare any dividend on our capital stock. Our credit agreement also restricts certain activities, including our ability to pay cash dividends.

Stock Performance Graph

The following graph compares the change in the cumulative total stockholder return on our common stock during the period from November 1, 2007 (the date of our initial public offering) through December 31, 2008, with the cumulative total return on the NASDAQ Computer Index and the NASDAQ Composite Index. The comparison assumes that $100 was invested on November 1, 2007 in our common stock and in each of the foregoing indices and assumes reinvestment of dividends, if any.

LOGO

Assumes $100 invested on November 1, 2007

Assumes dividends reinvested

Fiscal year ended December 31, 2008 and 2007

 

     11/1/2007    12/31/2007    12/31/2008

Deltek, Inc.

   $ 100.00    $ 84.85    $ 25.85

NASDAQ Computer Index

   $ 100.00    $ 92.30    $ 50.13

NASDAQ Composite Index

   $ 100.00    $ 94.03    $ 53.82

 

(1) This graph is not “soliciting material,” is not deemed filed with the Securities and Exchange Commission and is not to be incorporated by reference in any filing by us under the Securities Act or the Exchange Act, whether made before or after the date hereof and irrespective of any general incorporation language in any such filing.

 

(2) The stock price performance shown on the graph is not necessarily indicative of future price performance. Information used in the graph was obtained from Research Data Group, Inc., a source believed to be reliable, but we are not responsible for any errors or omissions in such information.

 

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(3) The hypothetical investment in our common stock presented in the stock performance graph above is based on an assumed initial price of $17.95 per share, the closing price on November 1, 2007, the date of our initial public offering. The stock sold in our initial public offering was issued at a price to the public of $18.00 per share.

The equity compensation plan information required under this Item is incorporated by reference to the information provided under the heading “Equity Compensation Plan Information” in our definitive proxy statement to be filed with the Securities and Exchange Commission no later than 120 days after the fiscal year ended December 31, 2008.

 

Item 6. Selected Financial Data

The following selected consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements contained elsewhere in this Annual Report. The statement of operations data and the balance sheet data for the years presented in the table below are derived from, and are qualified by reference to, our audited consolidated financial statements.

As described in Note 2 of the consolidated financial statements included in this Annual Report, in April of 2005, the Company underwent a leveraged recapitalization and the Company changed to a C-corporation tax status subject to income taxation from an S-corporation in which income taxes were borne by the shareholders. During 2008, 2007, 2006 and 2005, the Company made business acquisitions. These transactions could affect the comparability of the information presented.

 

     Year Ended December 31
     2008    2007    2006    2005     2004
     (In thousands, except per share amounts)

REVENUES:

             

Software license fees

   $ 77,398    $ 87,118    $ 74,958    $ 45,923     $ 34,934

Consulting services

     91,566      83,353      66,573      41,212       28,585

Maintenance and support services

     115,658      102,903      83,172      63,709       54,178

Other revenues

     4,743      4,872      3,565      2,112       3,516
                                   

Total revenues

   $ 289,365    $ 278,246    $ 228,268    $ 152,956     $ 121,213
                                   

Gross profit

   $ 180,899    $ 175,169    $ 146,608    $ 101,735     $ 77,555
                                   

Income (loss) before income taxes

   $ 36,113    $ 37,996    $ 25,267    $ (366 )   $ 26,766
                                   

Net income

   $ 23,519    $ 22,519    $ 15,298    $ 8,732     $ 27,883
                                   

Diluted earnings per share

   $ 0.53    $ 0.54    $ 0.38    $ 0.17     $ 0.33
                                   

Shares used in diluted per share computation

     44,280      41,617      40,262      52,910       84,741

Total assets

   $ 193,272    $ 167,680    $ 134,488    $ 95,650     $ 56,331
                                   

Long-term debt

   $ 182,661    $ 192,815    $ 210,375    $ 213,275     $ —  
                                   

 

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) should be read in conjunction with our consolidated financial statements and notes thereto which appear elsewhere in this Annual Report on Form 10-K. Our actual results may differ materially from those currently anticipated and expressed in such forward-looking statements as a result of a number of factors, including those discussed under “Risk Factors” and elsewhere in this Annual Report on Form 10-K.

All dollar amounts expressed as numbers in tables (except per share amounts)

in this MD&A are in millions.

Certain tables may not add due to rounding.

Company Overview

Since our founding in 1983, we have established a leading position as a provider of enterprise applications software and related services designed and developed specifically for project-focused organizations. These organizations include architectural and engineering firms, government contractors, aerospace and defense contractors, information technology services firms, consulting companies, discrete project manufacturing companies, grant-based not-for-profit organizations and government agencies, among others.

These project-focused organizations generate revenue from defined customer-specific engagements or activities. Project-focused organizations typically require specialized software to help them automate complex business processes around the engagement, execution and delivery of projects. Our software applications enable project-focused companies to significantly enhance the visibility they have over all aspects of their operations by providing them increased control over their critical business processes, accurate, project-specific financial information, and real-time performance measurements.

With our software applications, project-focused organizations can better measure business results, optimize performance, streamline operations, enabling them to win new business, operate more effectively and improve profitability. As of December 31, 2008, we had over 12,000 customers worldwide that spanned numerous project-focused industries and ranged in size from small organizations to large enterprises.

Our revenue is generated from sales of software licenses and related software maintenance and support agreements and professional services to assist customers with the implementation of our products, as well as education and training services. Our continued growth depends, in part, on our ability to generate software license fee revenues from new customers and to continue to expand our presence within our existing installed base of customers.

In our management decision making, we continuously balance our need to achieve short-term financial goals with the equally critical need to continuously invest in our products and infrastructure to ensure our future success. In making decisions around spending levels in our various functional organizations, we consider many factors, including:

 

   

Our ability to expand our presence and penetration of existing markets;

 

   

The extent to which we can sell new products to existing customers and sell upgrades to applications from legacy products in our current portfolio;

 

   

Our success in expanding our network of alliance partners;

 

   

Our ability to expand our presence in new markets and broaden our reach geographically; and

 

   

The pursuit and successful integration of acquired companies.

We have acquired companies to broaden our product offerings, expand our customer base and provide us with a future opportunity to migrate those added customers to newer applications we may develop. The products

 

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of the acquired companies provide our customers with core functionality that complements our own established products.

In evaluating our financial condition and operating performance, we consider a variety of factors including, but not limited to, the following:

 

   

The growth rates of the individual components of our revenues (licenses, services and support) relative to recent historical trends and the growth rate of the overall market as reported or predicted by industry analysts;

 

   

The gross margins of our business relative to recent historical trends;

 

   

Our operating expenses and income from operations;

 

   

Our cash flow from operations;

 

   

The long-term success of our development efforts;

 

   

Our ability to successfully penetrate new markets;

 

   

Our ability to successfully integrate acquisitions and achieve anticipated synergies;

 

   

Our win rate against our competitors;

 

   

Our long-term customer retention rates; and

 

   

Our long-term adjusted EBITDA margin trends.

Each of the factors may be evaluated individually or collectively by our senior management team in evaluating our performance as we balance our short-term quarterly objectives and our strategic goals and objectives.

Since 2005, we have substantially increased our investments in product development, sales and marketing to increase our presence in our targeted markets so as to raise awareness among our potential customers and compete more aggressively. We believe that these additional investments have been instrumental in further improving our competitive position and driving our growth in total revenues since 2005. While we expect to control our operating expenses and manage our cash flow in light of the prevailing financial and economic conditions, we expect to continue our investments in product development, sales and marketing according to the anticipated demand for our various products during the year ended December 31, 2009.

Consistent with our expectations that the current economic recession will continue during the year ending December 31, 2009, we expect to focus our spending on product development, sales and marketing efforts on our key markets and products. We also believe that our international expansion plans will require continued investment in local marketing initiatives. We may also acquire businesses or complementary products to facilitate our growth objectives. In light of current economic conditions and to realign our resources to accomplish our strategic goals and objectives, we undertook a reduction in force in 2008 and 2009 which, we believe better positions us to accomplish our goals and objectives.

As a result of the current economic recession, our software license fee revenue attributable to our Vision product was impacted as a number of architecture and engineering customers deferred purchasing decisions, lengthened sales cycles and slowed the adoption of new technologies. While the timing and extent of any economic recovery is uncertain, we expect these trends to continue during the year ending December 31, 2009. In addition, we may experience a decline in demand during 2009 for consulting, maintenance and support services from our architecture and engineering customers due to the impact of the recession.

Our government contracting customers were less impacted by the recession due to the increase in government spending in 2008 and, as a result, our sales of software licenses for our Costpoint, GCS Premier and enterprise product management (“EPM”) products were less affected by the recession. While the timing and extent of any economic recovery is uncertain, we expect these products to account for a larger percentage of our

 

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overall software license fee revenue as a result of increased government spending, increased regulation by government agencies and the impact of the economic stimulus package on government contracting customers. We also expect these trends to positively impact demand during 2009 for our consulting, maintenance and support services.

History

We were founded in 1983 to develop and sell accounting software solutions for firms that contract with the U.S. government. Since our founding, we have continued our focus on providing solutions to government contractors as well as to other project-focused organizations, and at the same time we have broadened our product offerings by developing new software products, selectively acquiring businesses with attractive project-focused applications and services, and partnering with third parties.

In April 2005, the New Mountain Funds purchased the majority ownership of our company from the founding deLaski stockholders through a recapitalization. Immediately after this transaction, we implemented a strategy to recruit additional management talent and significantly improve our competitive position and growth prospects through increased investments in product development, sales and marketing initiatives, complemented by strategic acquisitions aimed at broadening our customer base and our product offerings.

In October 2005, we acquired Wind2, an enterprise software provider serving project-focused A&E and other professional services firms. The acquisition of Wind2 enabled us to expand our presence in the A&E market by adding small and medium-sized engineering firms to our existing customer base.

In March 2006, we acquired WST, Inc. (“Welcom”), a leading provider of project portfolio management solutions, focused on earned value management, planning and scheduling, portfolio analysis, risk management and project collaboration products. The acquisition of Welcom increased our presence among a number of multinational aerospace, defense and government clients, augmenting our existing installed base of customers. This acquisition complemented our core product offerings and created opportunities for additional sales to our existing customer base.

In July 2006, we acquired C/S Solutions, Inc. (“CSSI”), a leading provider of business intelligence tools for the earned value management marketplace. The acquisition of CSSI built upon our leadership position in the enterprise project management sector by incorporating collaborative earned value management analytics delivered by CSSI’s wInsight software with our own earned value management engine, Cobra, and Costpoint, our enterprise resource planning solution for mid- to large-sized government contractors.

In April 2007, we acquired the business assets of Applied Integration Management Corporation (“AIM”), a provider of project management consulting services. This acquisition supplemented our existing project portfolio management systems implementation expertise and capabilities and allowed us to provide additional project portfolio management consulting, training and implementation services.

In April 2007, we reincorporated in the State of Delaware as Deltek, Inc.

In May 2007, we completed the acquisition of WST Pacific Pty Ltd. (“WSTP”), a provider of earned value management (“EVM”) solutions based in Australia, and previously a development partner of Welcom. The acquisition complemented our existing EVM development, services and support resources.

In November 2007, the Company completed its initial public offering consisting of 9,000,000 shares of common stock for $18.00 per share. For additional information regarding the initial public offering, see the Initial Public Offering section of Note 1 in our consolidated financial statements contained in Item 8 in this Annual Report on Form 10-K.

In August 2008, we acquired the MPM solution (“MPM”) and all related assets from Planview, Inc., an earned value management software application used by government contractors and agencies to meet complex

 

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compliance requirements for their programs issued by the Federal Government. MPM integrates with Deltek wInsight to create a complete earned value solution for government contractors and agencies.

Critical Accounting Policies and Estimates

In presenting our financial statements in conformity with generally accepted accounting principles in the United States, we are required to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses and related disclosures.

Some of the estimates and assumptions we are required to make relate to matters that are inherently uncertain as they pertain to future events. We base these estimates and assumptions on historical experience or on various other factors that we believe to be reasonable and appropriate under the circumstances. On an ongoing basis, we reconsider and evaluate our estimates and assumptions. Actual results may differ significantly from these estimates. Future results may differ from our estimates under different assumptions or conditions.

We believe that the critical accounting policies listed below involve our more significant judgments, assumptions and estimates and, therefore, could have the greatest potential impact on our consolidated financial statements.

For further information on our critical and other significant accounting policies, see Note 1, Organization and Summary of Significant Accounting Policies, of our consolidated financial statements contained in Item 8 of this Annual Report on Form 10-K.

Revenue Recognition

We recognize revenue in accordance with the provisions of The American Institute of Certified Public Accountants Statement of Position (“SOP”) 97-2, Software Revenue Recognition, as amended by SOP 98-9, Modifications of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions, as well as Technical Practice Aids issued from time to time by the AICPA, and in accordance with the Securities and Exchange Commission Staff Accounting Bulletin (“SAB”) No. 104, Revenue Recognition.

We derive revenues from three primary sources, or elements: software license fees for our products; maintenance and support for those products; and consulting services, including training, related to those products. A typical sales agreement includes both software licenses and maintenance and may also include consulting services, including training.

Software License Fee Revenues: For sales arrangements involving multiple elements where the software does not require significant modification or customization, we recognize software license fee revenues using the residual method as described in SOP 98-9 because to date we have not established vendor specific objective evidence (“VSOE”) of fair value for the license element. Under the residual method, we allocate revenue to, and defer recognition of, undelivered elements based on their VSOE of fair value and recognize the difference between the total arrangement fee and the amount deferred for the undelivered elements as revenue for the delivered elements. The objectively determined fair value of the undelivered elements in multiple element arrangements is based on the price charged when such elements are sold separately. Our typical undelivered elements (maintenance and consulting services) are priced consistently at stated amounts in a high percentage of our arrangements such that VSOE generally exists for undelivered elements of our arrangements.

If VSOE exists to allow the allocation of a portion of the total fee to undelivered elements of the arrangement, the residual amount in the arrangement allocated to software license fee is recognized as revenue when all of the following are met:

 

   

Persuasive evidence of an arrangement exists. It is our practice to require a signed contract or an accepted purchase order for existing customers.

 

   

Delivery has occurred. We deliver software by both physical and secure electronic means. Both means of delivery transfer title and risk to the customer. Shipping terms are generally FOB shipping point.

 

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The software license sale is fixed and determinable. We recognize revenue for the license component of multiple element arrangements only when the fair value of any undelivered elements is known, any uncertainties surrounding customer acceptance are resolved and there are no refund, return or cancellation rights associated with the delivered elements. Software license sales are generally considered fixed and determinable when payment terms are less than six months.

 

   

Collectability is probable. Amounts receivable must be collectible. For license arrangements that do not meet our collectability standards, revenue is recognized as cash is received.

Consulting Services Revenues: Our consulting services revenues, which include software implementation, training and other consulting services, are generally billed based on hourly rates plus reimbursable out-of-pocket expenses.

These services are generally not essential to the functionality of our software and are usually completed in three to six months, though larger implementations may take longer. We generally recognize revenues for these services as they are performed. In rare situations in which the services are deemed essential to the functionality of our software in the customer’s environment, we recognize the software and services revenue together in accordance with SOP 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts (“SOP 81-1”).

We sell training at a fixed rate for each specific class, at a per attendee price, or at a packaged price for several attendees, and revenue is recognized only when the customer attends and completes the training. We also provide training services at a standard rate per hour at our customers’ sites. To the extent that our customers pay for the training services in advance of delivery, the amounts are recorded in deferred revenue until such time as the training is provided.

Maintenance and Support Services Revenues: Maintenance and support services include software updates on a when-and-if-available basis, telephone, online and web-based support and software defect fixes or patches. Maintenance revenues are recognized ratably over the term of the customer maintenance and support agreement.

The significant judgments and estimates for revenue recognition typically relate to the timing of an amount recognized for software license fee revenue, including whether collectability is deemed probable, fees are fixed and determinable and services are essential to the functionality of the software. Changes to these assumptions would generally impact the timing and amount of revenue recognized for software license fee revenues versus other revenue categories.

Stock-Based Compensation

SFAS No. 123R, Share-Based Payments (“SFAS 123R”) requires the measurement of the cost of employee services received in exchange for an award of equity instruments, including employee stock options, restricted stock awards, and employee stock purchases under our Employee Stock Purchase Program (“ESPP”), based on the fair value of the award on the measurement date of grant. We determine the fair value of options granted using the Black-Scholes-Merton option-pricing model and recognized the cost over the period during which an employee is required to provide service in exchange for the award.

In accordance with SFAS 123R, we recorded $8.5 million, $6.1 million, and $1.7 million in stock-based compensation expense for the years ended December 31, 2008, 2007 and 2006, respectively. The compensation expense recorded for the year ended December 31, 2008 related to stock options, restricted stock awards and the ESPP. For the year ended December 31, 2007, the compensation expense recorded related to stock options and ESPP, and for the year ended December 31, 2006 compensation expense related to stock options.

The key assumptions used by management in the Black-Scholes-Merton option-pricing model include the fair value of our common stock at the grant date, which is also used to determine the option exercise price, the

 

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expected life of the option, the expected volatility of our common stock over the life of the option and the risk-free interest rate. In determining the amount of stock-based compensation to record, management must also estimate expected forfeitures of stock options over the expected life of the options.

Prior to our initial public offering in November 2007 and given the absence of an active market for our common stock, our board of directors or compensation committee (or its authorized member(s)) estimated the fair value of our common stock at the time of each grant. Numerous objective and subjective factors were considered in estimating the value of our common stock at each option grant date in accordance with the guidance in AICPA Practice Aid “Valuation of Privately-Held-Company Equity Securities Issued as Compensation.”

Based on these factors, employee stock options were granted during 2006 at exercise prices ranging from $7.22 to $11.48 and during 2007 at exercise prices ranging from $12.24 to $18.00. Our initial public offering in November 2007 was $18.00 per share.

Based, in part, upon subsequent valuations, the compensation committee of our board reassessed the estimated fair value of certain stock options previously granted during the first ten months of 2006. As a result of the reassessment, stock option awards granted to 24 employees and directors were determined to have been made at exercise prices below the reassessed fair value on the date of grant. As a result, those option grants were modified to increase the exercise price to be equal to the revised assessment of the fair value on the date of grant. The option prices for those grants were adjusted upward from the original fair values ranging from $7.22 to $10.19 to revised fair values which ranged from $7.91 to $11.48. No incremental compensation cost resulted from the modifications since the exercise prices were increased. The weighted average intrinsic value of all stock options at the modification date, where applicable, was zero.

Valuation Methodology

From January 1, 2006 through the initial public offering, the valuation method that we used to estimate the fair value of our common stock utilized a combination of a market multiple methodology and a comparable transaction methodology.

The market multiple methodology considered market valuation multiples of similar enterprise application software firms (the “comparable software companies”). We selected seven comparable companies that met the following criteria:

 

   

The company was primarily engaged in the enterprise software business;

 

   

The company was publicly held and actively traded; and

 

   

The enterprise value of the company was less than $1 billion.

Based on an analysis of the valuation multiples of the comparable software companies, we determined an appropriate multiple to apply to the relevant values for:

 

   

our cumulative earnings before interest, taxes, depreciation, amortization, recapitalization expenses and stock-based compensation expense (“adjusted EBITDA”) for the four quarters ended prior to the valuation date;

 

   

our estimated adjusted EBITDA for the current period, determined as of the valuation date based on management’s estimates; and

 

   

for periods beginning in October 2006, our estimated adjusted EBITDA for 2007.

The result of this calculation was an estimate of our enterprise value using market multiples of comparable software companies.

The comparable transaction methodology considered market valuation multiples of over 20 software company acquisition transactions announced since early 2003. We selected transactions for this methodology from databases of publicly announced and completed controlling interest transactions involving enterprise

 

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software companies valued between $10 million and $15 billion. The analysis of comparable transactions included for each valuation was consistently updated to include transactions announced and completed since the prior valuation. The factors considered in our comparable transaction methodology analysis were the acquired company’s enterprise value to revenue multiple and its enterprise value to adjusted EBITDA ratio.

After analysis of the range of values of those comparable transactions as well as their mean and median values, a range of comparable enterprise value multiples that considered our growth rate and adjusted EBITDA margin levels was applied to our revenue and adjusted EBITDA levels. We further adjusted this value to remove the estimated impact of the control premium from the market multiples used. The result of this calculation was an estimate of our enterprise value using comparable transaction multiples of other acquired software firms.

The application of the market multiple methodology and the comparable transaction methodology was equally weighted and yielded an estimated enterprise value which we then adjusted for our cash and debt balances to estimate the aggregate value of our common stock. We then adjusted that valuation for a marketability discount ranging from 5% to 15% depending upon the proximity of an expected liquidity event such as our planned initial public offering to reflect the fact that our shares were not publicly tradable. The resulting valuation of our company was used to determine the estimated fair value of our common stock at the valuation date. Subsequent to our initial public offering in November 2007, the fair value of our common stock has been determined based upon the closing stock market value.

Because we do not have significant history associated with our stock options in order to determine the expected volatility of our options, we calculated expected volatility as of each grant date under both SFAS 123 and SFAS 123R using an implied volatility method based in part on reported data for a peer group of publicly traded software companies for which historical information was available. We will continue to use peer group volatility information until sufficient historical volatility of our common stock is available to measure expected volatility for future option grants.

The average expected life of our stock options was determined according to the “SEC simplified method” as described in SAB No. 107, Share-Based Payment, which is the midpoint between the vesting date and the end of the contractual term. The risk-free interest rate was determined by reference to the U.S. Treasury yield curve rates with the remaining term equal to the expected life assumed at the date of grant. Forfeitures were estimated based on our historical analysis of actual stock option forfeitures and employee turnover.

Income Taxes

We are required to estimate our income taxes in each of the jurisdictions in which we operate. We record this amount as a provision or benefit for taxes in accordance with SFAS No. 109, Accounting for Income Taxes and FASB Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty for Income Taxes—An Interpretation of FASB Statement No. 109. This process involves estimating our actual current tax exposure, including assessing the risks associated with tax audits and assessing temporary differences resulting from different treatment of items for tax and accounting purposes. We adopted FIN 48 effective January 1, 2007. FIN 48 requires significant judgment in determining what constitutes an individual tax position as well as assessing the outcome of each tax position. Changes in judgment as to recognition and measurement of tax positions can affect the estimate of the effective tax rate and consequently affect our operating results.

These temporary differences result in deferred tax assets and liabilities. As of December 31, 2008, we had deferred tax assets of approximately $8.8 million, which were primarily related to differences in the timing of recognition of revenue and expenses for book and tax purposes. We assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe recovery is not likely, we establish a valuation allowance. As of December 31, 2007, we maintained a valuation allowance equal to the $1.1 million of the deferred tax assets related to foreign net operating loss carry forwards as there was not sufficient evidence at that time to enable us to conclude that it was more likely than not that the deferred tax assets would be realized. During 2008, we made certain changes to our transfer pricing agreements. As a result of this change in geographic distribution of income we released all of the $1.1 million valuation allowance as we determined that it was more likely than not that we would be able to realize the tax benefits associated with our foreign losses.

 

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Prior to our recapitalization in April 2005, we were organized as an S-corporation under the Internal Revenue Code of 1986, as amended (“the Code”) and as a result were not subject to federal income taxes. As an S-corporation, we made periodic distributions to our stockholders that covered the stockholders’ anticipated tax liability. In connection with the recapitalization in April 2005, we converted our U.S. taxable status from an S-corporation to a C-corporation as defined by the Code. Consequently, since April 2005 we have been subject to federal and state income taxes. Upon the conversion, we recorded a one-time benefit of $8.9 million to establish a deferred tax asset relating to differences between the book and tax basis of certain operating assets and liabilities and the acquired tax net operating loss carryforwards of Semaphore, Inc., which we acquired in August 2000.

Under the terms of the April 2005 recapitalization agreement, the tax benefit portion of the recapitalization expenses attributable to the settlement of certain stock appreciation rights held by employees is payable to the selling stockholder group in the recapitalization. The liability to the selling stockholder group is reflected as “Accrued liability for redemption of stock in recapitalization” in the accompanying balance sheet.

Our deferred tax assets and liabilities are recorded at the enacted tax rates in effect for the year in which the differences are expected to reverse. If a change to the expected tax rate is determined to be appropriate due to differences between our assumptions and actual results of operations or statutory tax rates, it will affect the provision for income taxes during the period that the determination is made.

Allowances for Doubtful Accounts Receivable

We maintain allowances for doubtful accounts and sales allowances to provide adequate provision for potential losses from collecting less than full payment on our accounts receivable. We record provisions for sales allowances, which generally result from credits issued to customers in conjunction with cancellations of maintenance agreements or billing adjustments, as a reduction to revenues. We record provisions for bad debt, or credit losses, as a general and administrative expense in our income statement. We base these provisions on a review of our accounts receivable aging, individual overdue accounts, historical write-offs and adjustments of customer accounts due to service or other issues and an assessment of the general economic environment.

Valuation of Purchased Intangible Assets and Acquired Deferred Revenue

We allocate the purchase price paid in a business combination to the assets acquired, including intangible assets, and liabilities assumed at their estimated fair values. Such valuations require management to make significant estimates and assumptions, especially with respect to intangible assets.

Management makes estimates of fair value based upon assumptions and estimates we believe to be reasonable. These estimates are based upon a number of factors, including historical experience, market conditions and information obtained from the management of the acquired company. Critical estimates in valuing certain of the intangible assets include, but are not limited to, historical and projected customer retention rates, anticipated growth in revenue from the acquired customer and product base and the expected use of the acquired assets.

We amortize acquired intangible assets using either accelerated or straight-line methods depending upon which best approximates the proportion of future cash flows estimated to be generated in each period of the estimated useful life of the specific asset. Management must estimate the expected life and future cash flows from the acquired asset, both of which are inherently uncertain and unpredictable. Changes in the assumptions used in developing these estimates could have a material impact on the amortization expense recorded in our financial statements. Unanticipated events and circumstances may occur which may affect the accuracy or validity of our assumptions and estimates. As an example, for all of the acquisitions made during 2008, 2007, 2006 and 2005, we are amortizing the customer relationship intangible assets on an accelerated method using lives of five to nine years. The use of an accelerated method was based upon our estimates of the projected cash

 

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flows from the assets and the proportion of those cash flows received over the estimated life. Had we used a straight-line method of amortization, amortization expense for 2008 would have been approximately $0.8 million less than the amount recorded. If we were to continue to use the same accelerated method, but reduce the estimated useful lives of those assets by one year, total amortization expense would have been higher by $0.3 million for 2008. We amortize acquired technology from our acquisitions using either an accelerated or a straight-line method over three to four years. If the useful lives for those assets were reduced by one year, amortization expense for 2008 would have been approximately $0.9 million which is $0.4 million lower than the current year expense.

As a component of our acquisitions, we acquired maintenance obligations (and the associated deferred revenue) with our acquisitions. Emerging Issues Task Force (“EITF”) Issue No. 01-3, Accounting in a Business Combination for Deferred Revenue of an Acquiree, and EITF Issue No. 04-11, Accounting in a Business Combination for Deferred Post Contract Customer Support Revenue of a Software Vendor, clarified different methods to determine the fair value of deferred revenue in a business combination. In accordance with EITF guidance, we valued acquired deferred revenue based on estimates of the cost of providing solution support services and software error corrections plus a reasonable profit margin. The impact of our valuation was a write down of the acquired deferred revenue balances to an average of 43% of their book value on the date of acquisition, from a total of $8.0 million to $3.4 million. This reduced amount will be recognized as revenue over the remaining contractual period of the obligation, generally no more than one year from the date of acquisition. Changes in the estimates used in determining these valuations could result in more or less revenue being recorded.

Impairment of Identifiable Intangible and Other Long-Lived Assets and Goodwill

We review identifiable intangible and other long-lived assets for impairment in accordance with SFAS No. 144, Accounting for the Impairment and Disposal of Long-Lived Assets, whenever events or changes in circumstances indicate the carrying amount may be impaired or unrecoverable.

We assess the impairment of goodwill in accordance with SFAS No. 142, Goodwill and Other Intangible Assets. Accordingly, we test our goodwill for impairment annually at December 31 or whenever events or changes in circumstances indicate an impairment may have occurred. The impairment test compares the fair value of the reporting unit with its carrying amount. If the carrying amount exceeds its fair value, impairment is indicated. The impairment is measured as the excess of the recorded goodwill over its fair value.

Factors that indicate the carrying amount of goodwill, identifiable intangible assets or other long-lived assets that may not be recoverable include under-performance relative to historical or projected operating results, significant changes or limitations in the manner of our use of the acquired assets, changes in our business strategy, adverse market conditions, changes in applicable laws or regulations and a variety of other factors and circumstances.

If we determine that the carrying value of a long-lived asset may not be recoverable, we determine the recoverability by comparing the carrying amount of the asset to our current estimates of net future undiscounted cash flows that the asset is expected to generate (or fair market value). We recognize an impairment charge, as an operating expense, equal to the amount by which the carrying amount exceeds the fair market value of the asset in the period the determination is made.

 

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Results of Operations

The following table sets forth our statements of operations including dollar and percentage of change from the prior periods indicated:

 

     Year Ended December 31     2008 versus 2007     2007 versus 2006  
     2008     2007     2006     Change     % Change     Change     % Change  
     (dollars in millions)                          

REVENUES:

              

Software license fees

   $ 77.4     $ 87.1     $ 75.0     $ (9.7 )   (11 )   $ 12.1     16  

Consulting services

     91.6       83.4       66.6       8.2     10       16.8     25  

Maintenance and support services

     115.7       102.9       83.2       12.8     12       19.7     24  

Other revenues

     4.7       4.9       3.5       (0.2 )   (4 )     1.4     40  
                                            

Total revenues

   $ 289.4     $ 278.3     $ 228.3     $ 11.1     4     $ 50.0     22  
                                            

COST OF REVENUES:

              

Cost of software license fees

   $ 6.6     $ 7.9     $ 6.9     $ (1.3 )   (16 )   $ 1.0     14  

Cost of consulting services

     75.3       72.6       54.7       2.7     4       17.9     33  

Cost of maintenance and support services

     21.4       17.4       15.5       4.0     23       1.9     12  

Cost of other revenues

     5.2       5.3       4.6       (0.1 )   (2 )     0.7     15  
                                            

Total cost of revenues

   $ 108.5     $ 103.2     $ 81.7     $ 5.3     5     $ 21.5     26  
                                            

GROSS PROFIT

   $ 180.9     $ 175.1     $ 146.6     $ 5.8     3     $ 28.5     19  
                                            

OPERATING EXPENSES:

              

Research and development

   $ 45.8     $ 42.9     $ 37.3     $ 2.9     7     $ 5.6     15  

Sales and marketing

     53.8       45.3       37.8       8.5     19       7.5     20  

General and administrative

     33.4       30.6       26.6       2.8     9       4.0     15  

Restructuring charge

     1.0       —         —         1.0     100       —       —    
                                            

Total operating expenses

   $ 134.0     $ 118.8     $ 101.7     $ 15.2     13     $ 17.1     17  
                                            

INCOME FROM OPERATIONS

   $ 46.9     $ 56.3     $ 44.9     $ (9.4 )   (17 )   $ 11.4     25  

Interest income

     0.6       0.3       0.4       0.3     100       (0.1 )   (25 )

Interest expense

     (11.0 )     (18.5 )     (20.1 )     7.5     (41 )     1.6     (8 )

Other (expense) income, net

     (0.4 )     (0.1 )     0.1       (0.3 )   300       (0.2 )   (200 )
                                            

INCOME BEFORE INCOME TAXES

     36.1       38.0       25.3       (1.9 )   (5 )     12.7     50  

Income tax expense

     12.6       15.5       10.0       (2.9 )   (19 )     5.5     55  
                                            

NET INCOME

   $ 23.5     $ 22.5     $ 15.3     $ 1.0     4     $ 7.2     47  
                                            

Revenues

 

     Year Ended December 31    2008 versus 2007     2007 versus 2006
     2008    2007    2006    Change     % Change     Change    % Change
     (dollars in millions)                      

REVENUES:

            

Software license fees

   $ 77.4    $ 87.1    $ 75.0    $ (9.7 )   (11 )   $ 12.1    16

Consulting services

     91.6      83.4      66.6      8.2     10       16.8    25

Maintenance and support services

     115.7      102.9      83.2      12.8     12       19.7    24

Other revenues

     4.7      4.9      3.5      (0.2 )   (4 )     1.4    40
                                        

Total revenues

   $ 289.4    $ 278.3    $ 228.3    $ 11.1     4     $ 50.0    22
                                        

 

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Software License Fees

Our software applications are generally licensed to end-user customers under perpetual license agreements. We sell our software applications to end-user customers mainly through our direct sales force, as well as indirectly through our network of alliance partners and resellers. The timing of the sales cycle for our products varies in length based upon a variety of factors, including the size of the customer, the product being sold and whether the customer is a new or existing customer. We primarily compete on product features, functionality and the needs of our customers within our served markets, with price generally a lesser consideration. The pricing for our products has remained stable, requiring infrequent changes in our pricing strategies.

Software license fee revenues decreased $9.7 million, or 11%, to $77.4 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. For the year ended December 31, 2008, revenues from Vision software license fees decreased $10.3 million compared to the year ended December 31, 2007 primarily due to a number of architecture and engineering customers that deferred purchasing decisions, lengthened sales cycles and slowed the adoption of new technologies as their focus turned to the impact of the escalating financial crisis on their businesses in the latter half of 2008.

While the timing and extent of any financial or economic turnaround is uncertain, we expect these recent trends in the architecture and engineering market to continue during the year ending December 31, 2009 as customers in this market continue to wait for signs of an economic recovery.

Software license fee revenue from our Costpoint, GCS Premier, and enterprise project management (“EPM”) products increased from the prior year by $0.6 million driven by continued demand for our products by government contractor customers as they were less affected by the global economic recession due to the continued increase in government spending. We expect this trend to continue into 2009 due to increased government spending, increased regulation by government agencies and the impact that the economic stimulus package in the United States will have on government contractor customers. As a result, we expect that Costpoint, GCS Premier and EPM software license fees to account for a larger percentage of our overall software license fee revenues.

Software license fee revenues increased $12.1 million, or 16%, to $87.1 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. Software license fee revenues from our Costpoint, GCS Premier, and EPM products grew by $8.3 million compared to the year ended December 31, 2006. Software license fee revenues from our Vision product family increased $3.8 million compared with the year ended December 31, 2006.

Consulting Services

Our consulting services revenues are generated from software implementation and related project management and data conversion, as well as training, education and other consulting services associated with our software applications and are typically provided on a time-and-materials basis.

Consulting services revenues increased $8.2 million, or 10%, to $91.6 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The increase in revenue year over year was driven by an increase of $6.8 million of software implementation related services in addition to an increase of $1.4 million in training and education related services revenue in 2008. The increase in software implementation related services was a result of increased demand for implementation services and more billable services headcount. Implementation services represented 92% of total consulting revenues for the year ended December 31, 2008 and 93% for the year ended December 31, 2007. We expect continued demand in 2009 for consulting services from our government contracting customers due to anticipated increases in government spending. Conversely, we may experience a decline in demand in 2009 for consulting services from our architecture and engineering customers due to the impact of the global economic recession.

Consulting services revenues increased $16.8 million, or 25%, to $83.4 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. The increase was the result of a $15.3 million increase in software implementation related services revenue and a $1.5 million increase in training

 

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and education related services revenue during the year ended December 31, 2007 compared with the year ended December 31, 2006. The $15.3 million increase in implementation services was driven by increased software license sales and includes $5.8 million of revenue associated with our acquisition of AIM during 2007. Implementation services represented 93% of total consulting services revenues for each of the years ended December 31, 2007 and December 31, 2006.

Maintenance and Support Services

Our maintenance and support revenues are comprised of fees derived from new maintenance contracts associated with new software license sales and annual renewals of existing maintenance contracts. These contracts typically allow our customers to obtain online, telephone and internet-based support, as well as unspecified periodic upgrades or enhancements to our software on an as available basis. Maintenance services are typically billed on a quarterly basis and generally represent between 15% and 25% of the list price of the underlying software applications at the time of sale. Maintenance fees are generally subject to contractually permitted annual rate increases.

Maintenance revenues increased $12.8 million, or 12%, to $115.7 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. Maintenance revenues from our Costpoint, GCS Premier, and EPM products collectively increased $6.8 million year over year and maintenance revenues from our Vision product increased $6.0 million. These increases were due to sales of new software licenses, renewals of maintenance agreements on our installed base of customers, and the annual price escalations for our maintenance services. These increases were partially offset by customer cancellations. In 2009, we expect that our maintenance revenues attributed to new software licenses from government contracting customers will be positively impacted by the anticipated increase in government spending. Conversely, we expect that our maintenance revenues attributed to new software licenses from architecture and engineering customers will be negatively impacted by the global economic recession.

Maintenance revenues increased $19.7 million, or 24%, to $102.9 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. Maintenance revenues from our Vision product family grew by $7.8 million, or 24%, and maintenance revenues from our Costpoint, GCS Premier, and EPM products grew by $12.0 million. These increases were driven by our sales of new software licenses and renewals of maintenance agreements in our installed base of customers.

Other Revenues

Our other revenues consist of fees collected for our annual user conference, which is typically held in the second quarter of the year, as well as sales of third-party hardware and software. For the year ended December 31, 2008, other revenues decreased $0.2 million, or 4%, to $4.7 million compared to the year ended December 31, 2007 as a result of a decrease in third-party hardware and software revenue of $0.6 million year over year. This decrease was partially offset by an increase in user conference revenue of $0.4 million as a result of higher attendance associated with our 2008 user conference. For the year ended December 31, 2007, other revenues increased $1.4 million, or 40%, to $4.9 million compared to the year ended December 31, 2006 driven by higher attendance associated with our 2007 user conference.

Cost of Revenues

 

     Year Ended December 31    2008 versus 2007     2007 versus 2006
         2008            2007            2006        Change     % Change     Change    % Change
     (dollars in millions)                      

COST OF REVENUES:

                  

Cost of software license fees

   $ 6.6    $ 7.9    $ 6.9    $ (1.3 )   (16 )   $ 1.0    14

Cost of consulting services

     75.3      72.6      54.7      2.7     4       17.9    33

Cost of maintenance and support services

     21.4      17.4      15.5      4.0     23       1.9    12

Cost of other revenues

     5.2      5.3      4.6      (0.1 )   (2 )     0.7    15
                                        

Total cost of revenues

   $ 108.5    $ 103.2    $ 81.7    $ 5.3     5     $ 21.5    26
                                        

 

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Cost of Software License Fees

Our cost of software license fees consists of third-party software royalties, costs of product fulfillment, amortization of acquired technology and amortization of capitalized software.

Cost of software license fees decreased by $1.3 million, or 16%, to $6.6 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The decrease was primarily a result of decreased royalty expense for third party software of $0.6 million driven by lower software license sales during the year ended December 31, 2008. In addition, there was a decrease in amortization from purchased intangibles of $0.4 million and capitalized software of $0.2 million. The decrease in amortization of software development costs was a result of a previously capitalized software becoming fully amortized in the prior year resulting in no current year expense.

Cost of software license fees increased by $1.0 million, or 14%, to $7.9 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. The increase was a result of approximately $0.9 million in additional royalty expense for third party software resulting from higher software license sales during the year and $0.6 million of additional amortization of purchased intangibles. These increases were partially offset by a decrease in amortization of capitalized software of approximately $0.3 million.

Cost of Consulting Services

Our cost of consulting services is comprised of the salaries, benefits, incentive compensation and stock-based compensation expense of services-related employees as well as third-party contractor expenses, travel and reimbursable expenses and classroom rentals. Cost of services also includes an allocation of our facilities and other costs incurred for providing implementation, training and other consulting services to our customers.

Cost of consulting services increased $2.7 million, or 4%, to $75.3 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The increase in labor and related benefits, bonus, and stock-based compensation resulted in a $4.3 million increase in cost of consulting services. This increase was partially offset by a decrease of $1.4 million of expenses related to our reduced reliance on subcontractor labor, lower travel related expenses and lower training and other related service expenses. At December 31, 2008 our ending services headcount was 320 as compared to 347 at December 31, 2007, or a decrease of 8%. Although ending headcount has decreased year over year, the annual average headcount for 2008 was higher by 20 or 6% as compared to the 2007 annual average headcount; therefore resulting in increased labor related charges year over year.

Cost of consulting services increased $17.9 million, or 33%, to $72.6 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. The primary driver of the increase was salary expenses, related benefits, bonus, and stock-based compensation which together grew by approximately $11.9 million. This increase was associated with higher headcount as we expanded the number of consultants to meet demand for our services as a result of increased software license sales. At December 31, 2007 our ending services headcount was 347 compared to 267 at December 31, 2006, or an increase of 30%. This increase in headcount was driven by newly hired employees, as well as employees obtained through the AIM acquisition. Newly hired employees generally require training on our products and processes prior to becoming billable. Subcontractor costs increased by $2.9 million compared to the prior year, as we utilized outside resources to meet the short-term demands of our growth in services engagements. We also experienced additional increases in travel, training, facilities and other costs. The increases in cost of consulting services for the year ended December 31, 2007 compared to December 31, 2006 were partially offset by a $2.3 million reduction in expense associated with previously deferred costs due to undelivered elements in software license arrangements.

Cost of Maintenance and Support Services

Our cost of maintenance and support services is primarily comprised of salaries, benefits, stock-based compensation, incentive compensation and third-party contractor expenses, as well as facilities and other expenses incurred in providing support to our customers.

 

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Cost of maintenance services increased $4.0 million, or 23%, to $21.4 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The increase was due to increased labor and related benefits, bonus, and stock-based compensation of $3.6 million and by an increase in royalties for third party products which are embedded or sold along with our products of $0.6 million offset by a decrease in travel related expenses and other support related expenses of $0.2 million year over year.

Cost of maintenance services increased $1.9 million, or 12%, to $17.4 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. The increase was driven by additional labor and labor related costs, which grew by $1.4 million and by royalties for third party products, which grew by $0.5 million.

Cost of Other Revenues

Our cost of other revenues includes the cost of third-party equipment and software purchased for customers as well as the cost associated with our annual user conference. Cost of other revenues decreased $0.1 million, or 2%, to $5.2 million for the year ended December 31, 2008 as compared to the year ended December 31, 2007 due to a decrease of $0.5 million in costs associated with lower third-party equipment and software sales offset by an increase in costs associated with our user conference of $0.3 million. For the year ended December 31, 2007, cost of other revenues increased to $5.3 million from $4.6 million for the year ended December 31, 2006. The increase was primarily due to $1.4 million of additional cost associated with our user conference, which was offset by $0.7 million of lower costs associated with lower sales of third party equipment and software.

Operating Expenses

 

     Year Ended December 31    2008 versus 2007    2007 versus 2006
         2008            2007            2006        Change    % Change    Change    % Change
     (dollars in millions)                    

OPERATING EXPENSES:

                    

Research and development

   $ 45.8    $ 42.9    $ 37.3    $ 2.9    7    $ 5.6    15

Sales and marketing

     53.8      45.3      37.8      8.5    19      7.5    20

General and administrative

     33.4      30.6      26.6      2.8    9      4.0    15

Restructuring charge

     1.0                1.0    100        
                                        

Total operating expenses

   $ 134.0    $ 118.8    $ 101.7    $ 15.2    13    $ 17.1    17
                                        

Research and Development

Our product development expenses consist primarily of salaries, benefits, stock-based compensation, incentive compensation and related expenses, including third-party contractor expenses, and other expenses associated with the design, development and testing of our software applications.

Research and development expenses increased by $2.9 million, or 7%, to $45.8 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. Labor and related benefits, bonus, and stock-based compensation are the primary contributors of the year over year increase adding $4.0 million more in development related expense activities from 2007 to 2008. These costs were offset by a decrease of $0.9 million in third party costs related to supporting new release developments as well as a decline in travel related expenses of $0.2 million.

Research and development expenses increased by $5.6 million, or 15%, to $42.9 million for the year ended December 31, 2007 compared to the same period in 2006. The increase was primarily due to increased labor and labor-related costs of $2.3 million to support new product release development, increased costs associated with the expansion of our international development center of $0.9 million, and other third party costs to support new release development of $0.7 million. The remaining increase was due to costs associated with acquired operations in Australia and other costs incurred by the development organization, including travel, training and facilities.

 

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Sales and Marketing

Our sales and marketing expenses consist primarily of salaries and related costs, commissions paid to our sales team and the cost of marketing programs (including our demand generation efforts, advertising, events, marketing and corporate communications, field marketing and product marketing) and other expenses associated with our sales and marketing activities. Sales and marketing expenses also include amortization expense for acquired intangible assets associated with customer relationships.

Sales and marketing expenses increased by $8.5 million, or 19%, to $53.8 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The change is primarily due to increased labor and related benefits, bonus, commissions, and stock-based compensation of $8.1 million driven by an increase in headcount coupled with an increase in travel related expenses of $0.6 million offset by $0.5 million in reduced conference and training fees.

Sales and marketing expenses increased by $7.5 million, or 20%, to $45.3 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. The increase was driven by additional labor and related costs of $3.3 million as we expanded our sales organization, an increase in sales commissions of $2.3 million associated with the increase in software license fee revenues, and an increase in amortization of purchased intangibles of $1.3 million.

General and Administrative

Our general and administrative expenses consist primarily of salaries and related costs for general corporate functions, including executive, finance, accounting, legal and human resources. General and administrative costs also include New Mountain Capital advisory fees, insurance premiums and third-party legal and other professional services fees, facilities and other expenses associated with our administrative activities.

General and administrative expenses increased by $2.8 million, or 9%, to $33.4 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. Labor and related benefits, bonus, and stock-based compensation increased year over year by $2.2 million coupled with an increase in audit, professional services, insurance and third-party costs of $1.3 million primarily due to costs associated with being a public company. The increase was offset in part with a decrease in bad debt expense of $0.7 million driven by improved collectibility in our foreign operations and overall improved billing processes.

General and administrative expenses increased by $4.0 million, or 15%, to $30.6 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. The increase was a result of increased headcount across finance, legal and human resources associated with becoming a publicly traded company. Labor and related costs accounted for $5.7 million of the total increase. Costs associated to identify and remediate control weaknesses also contributed to the increase. These costs were partially offset by a reduction in expense for transaction and advisory fees paid to New Mountain Capital, L.L.C. of $2.3 million.

Restructuring Charge

During the year ended December 31, 2008, management implemented a restructuring plan to eliminate certain positions to realign the Company’s cost structure and for the consolidation of excess office space. The charge taken in the second quarter of 2008 included $0.9 million for severance and severance-related costs for approximately 50 employees. The charge also included $0.1 million for facilities-related expenses, associated with closure of one office location and a reduction in space at a second location, and offset by a reduction in existing deferred rent liabilities.

Interest Income

Interest income in all periods reflects interest earned on our invested cash balances. Interest income increased by $0.3 million for the year ended December 31, 2008 compared to the year ended December 31, 2007

 

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due to higher cash balances in 2008 as compared to 2007, reflecting the impact of the initial public offering in November 2007 and the cash flow generated from operations during 2008. Interest income did not fluctuate significantly for the years ended December 31, 2007 and December 31, 2006.

Interest Expense

 

     Year Ended December 31    2008 versus 2007     2007 versus 2006  
         2008            2007            2006        Change     % Change     Change     % Change  
     (dollars in millions)                         

Interest expense

   $ 11.0    $ 18.5    $ 20.1    $ (7.5 )   (41 )   $ (1.6 )   (8 )

Interest expense decreased by $7.5 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. The decrease was the result of an overall decrease in the British Banker’s Association Interest Settlement Rates for dollar deposits (the “LIBO rate”), coupled with lower borrowings under our term loan and our credit facility during 2008. In addition, our lower leverage ratio resulted in a reduction in the spread over the LIBO rate from 2.25% to 2.00%.

Interest expense decreased by $1.6 million for the year ended December 31, 2007 compared to 2006. The decrease was the result of $2.3 million of expense in the prior year which did not exist in the current year associated with the write-off of previously deferred debt issuance costs. Lower interest payments in the fourth quarter of 2007 that resulted from debt repayments of $42.6 million made using proceeds from the initial public offering also contributed to the decrease. This decrease was partially offset by higher borrowings under our credit facility during the first nine months of 2007.

Income Taxes

 

     Year Ended December 31    2008 versus 2007     2007 versus 2006
         2008            2007            2006        Change     % Change     Change    % Change
     (dollars in millions)                      

Income tax expense

   $ 12.6    $ 15.5    $ 10.0    $ (2.9 )   (19 )   $ 5.5    55

Income tax expense decreased by $2.9 million for the year ended December 31, 2008 compared to the year ended December 31, 2007. As a percentage of pre-tax income, income tax expense was 34.9% and 40.7% for the years ended December 31, 2008 and 2007, respectively. The decrease in the effective tax rate was primarily the result of realizing tax benefits from losses in foreign subsidiaries, and realizing increased tax benefits from research and development tax credits and certain tax deductions and adjustments. During 2008, we performed a detailed functional and economic analysis involving benchmarking against transactions among entities that are not under our control. Based on our analysis, we made certain changes to our transfer pricing agreements. As a result of this change in geographic distribution of income during the third quarter of 2008, we released all of the valuation allowance we had previously recorded because we determined that it was more likely than not that we would be able to realize the tax benefits associated with its foreign losses. Of the $1.1 million valuation allowance we released in 2008, $0.6 million was recorded against goodwill and the remaining $0.6 million was recorded in the profit and loss statement.

Income tax expense increased by $5.5 million for the year ended December 31, 2007 compared to the year ended December 31, 2006. As a percentage of pre-tax income, income tax expense was 40.7% and 39.5% for the years ended December 31, 2007 and 2006, respectively. The increase between 2006 and 2007 was primarily the result of increased losses in foreign subsidiaries for which we could not recognize a benefit in 2007.

Effective January 1, 2007, we adopted the provisions of FASB Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes—An Interpretation of FASB Statement No. 109. FIN 48 clarifies the criteria that an individual tax position must satisfy for that position to be recognized in the financial statements. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. The Company’s adoption of FIN 48 resulted in a $0.4 million liability associated with various federal and state income tax matters related to the acquisition of WST Corporation during

 

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2006. The liability was recorded as an increase to goodwill. During 2007, the liability increased $0.2 million due to the utilization of research and development credits acquired from WST Corporation.

During the year ended December 31, 2008, the Company established an additional liability of approximately $0.4 million which included a $0.2 million increase associated with certain research and development tax credits acquired from WST Corporation. For further information, see Note 12, Income Taxes, of our consolidated financial statements contained in Item 8 of this Annual Report on Form 10-K. Prior to the effective date of SFAS No. 141 (revised 2007), Business Combinations (“SFAS 141R”), any adjustments to the unrecognized tax benefits from WST Corporation acquisition will primarily affect goodwill and have no impact on the effective tax rate. Subsequent to the adoption of SFAS 141R, changes to these unrecognized tax benefits will primarily be recorded as part of the income tax expense.

Recapitalization

In April 2005, we underwent a recapitalization in which we issued 29,079,580 shares of common stock to the New Mountain Funds for $105.0 million. We also sold $75.0 million of subordinated debentures to the New Mountain Funds and $25.0 million of subordinated debentures to one of the selling stockholders (collectively, the subordinated debentures or the debentures). In addition, we secured a $115.0 million term loan as part of the recapitalization. See Note 2, “Recapitalization” and Note 10, “Debt” of our consolidated financial statements contained in Item 8 of this Annual Report on Form 10-K.

The $320.0 million total proceeds from the term loan and the issuance of the common stock and subordinated debentures were primarily used to repurchase common stock from the selling stockholders to reduce their aggregate holdings to 25% of the outstanding shares, to make payments of approximately $31.0 million to holders of stock appreciation rights issued under our stock appreciation rights plan (SAR Plan) and to pay for the costs of the recapitalization, totaling approximately $8.2 million, and to pay $5.8 million for debt issuance costs.

In connection with the recapitalization, we issued to the New Mountain Funds 100 shares of Series A preferred stock, par value $0.001 per share, as to which the holders had no voting rights, but were entitled to elect a majority of the members of our board of directors until such time that the common stock owned by the New Mountain Funds constituted less than one-third of our outstanding common stock. After such time, the holders of Series A preferred stock had the right to elect one or more directors, declining in number as the holder’s common stock ownership declines. In connection with our reincorporation in Delaware, our Series A preferred stock was converted into Class A common stock with the same substantive terms. The Series A preferred stock carried no other voting rights, no dividend entitlement and no liquidation preferences.

Pursuant to the recapitalization, we became obligated to make a payment to the selling stockholders equal to the amount of income taxes that we would be required to pay, but for the availability of deductions related to the SAR payments made in connection with the recapitalization. The amount and timing of the additional payments to the selling stockholders was contingent on the use and timing of the SAR deductions to offset cash tax payments that we would otherwise have made. During 2007 and 2006, $4.8 million and $7.0 million, respectively, of this obligation was paid to the selling stockholders and the remaining obligation of $317,000 included in “Accrued Liability for Redemption of Stock in Recapitalization” as of December 31, 2008 is expected to be paid during 2009.

In addition to the $31.0 million in SAR payments, we agreed to vest $1.8 million associated with the value of unvested SARs for certain executives that were paid in varying increments through January 2008. We also agreed to convert employee unvested SARs into retention bonuses totaling $4.1 million, which are earned and are being expensed over the four-year period beginning May 2005. The retention amounts are paid in equal installments annually in April of each year through 2009. After taking into account reductions for terminated employees, $644,000 remained to be paid at December 31, 2008.

 

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Credit Agreement

In connection with the Company’s recapitalization in 2005, we entered into a credit agreement with a syndicate of lenders led by Credit Suisse that provided for a $115 million term loan and a $30 million revolving credit facility (the “Credit Agreement”). In April 2006, we added $100 million to the term loan to repay the outstanding debentures. The term loan matures on April 22, 2011, and the revolving credit facility terminates on April 22, 2010. As of December 31, 2008 and December 31, 2007 the outstanding amount of the term loan is $192.8 million and $193.3 million, respectively, and there were no borrowings outstanding under the revolving credit facility.

Term loans under the Credit Agreement accrue interest at either 2.25% or 2.00% above the LIBO rate. Amounts outstanding under the revolving credit facility accrue interest at either 2.00% or 1.00% above the LIBO rate. The spread above the LIBO rate decreases as our leverage ratio, as defined in the Credit Agreement, decreases and as we achieve specified credit ratings. At our option, the interest rate on loans under the Credit Agreement may be based on an alternative base (“prime”) rate (the “ABR Rate”), and the margins over ABR are 1.00% less than the margins over the LIBO rate. We pay a commitment fee of 0.50% per year on the unused amount of our revolving credit facility.

All the loans under the Credit Agreement are collateralized by substantially all of our assets (including our subsidiaries’ assets) and require us to comply with financial covenants requiring us to maintain defined minimum levels of interest coverage and fixed charges coverage and providing for a limitation on our leverage ratio.

The following table summarizes the significant financial covenants under the Credit Agreement (adjusted EBITDA below is as defined in the Credit Agreement):

 

Covenant Requirement

  

Calculation

  

As of December 31, 2008

  

Most Restrictive

Required Level

     

Required Level

   Actual
Level
  

Minimum Interest Coverage

   Cumulative adjusted EBITDA for the prior four quarters/consolidated interest expense    Greater than 2.50 to 1.00    6.66    Greater than 3.00 to 1.00 effective January 1, 2010
Minimum Fixed Charges Coverage    Cumulative adjusted EBITDA for the prior four quarters/(interest expense + principal payments + capital expenditures + capitalized software costs + cash tax payments)    Greater than 1.10    2.05    Greater than 1.10

Leverage Coverage

   Total debt/cumulative adjusted EBITDA for the prior four quarters    Less than 3.75 to 1.00    2.84    Less than 3.25 to 1.00 effective January 1, 2009

The Credit Agreement requires us to comply with non-financial covenants that restrict certain corporate activities by us and our subsidiaries, including our ability to incur additional indebtedness, guarantee obligations, or create liens on our assets, enter into sale and leaseback transactions, engage in mergers or consolidations, or pay cash dividends.

Based on our current and expected performance, we believe we will continue to satisfy the financial covenants of our Credit Agreement for the foreseeable future.

As of December 31, 2008, we were in compliance with all covenants related to our Credit Agreement.

In 2006, the costs incurred in connection with the addition to the term loan were $1.3 million. We incurred no debt issuance costs in 2007 and 2008.

 

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The debt issuance costs are being amortized and reflected in interest expense over the respective lives of the loans. At December 31, 2008, $0.8 million of unamortized debt issuance costs remained in “prepaid expenses and other current assets” and $0.8 million was reflected in “other assets” on the consolidated balance sheet. During the year ended December 31, 2008, 2007, and 2006, $0.8 million, $1.1 million and $3.0 million of costs were amortized, respectively, and reflected in “interest expense.” The December 31, 2007 and 2006 amount included $0.2 and $2.2 million, respectively, of accelerated amortization of debt issuance costs for a required repayment on the term loan during the fourth quarter of 2007 and for stockholder debt repaid in 2006.

During the fourth quarter of 2007, we used net proceeds from our initial public offering to repay $25.0 million of indebtedness outstanding under our revolving credit facility and used the remaining balance of the proceeds to repay $17.6 million of the indebtedness under the term loan. As a result, we accelerated $0.2 million of debt issuance cost amortization in the fourth quarter of 2007 as a result of the required repayment on the term loan.

In addition to scheduled principal payments, the Credit Agreement also requires mandatory prepayments of the term loan from annual excess cash flow, as defined in the Credit Agreement, and from the net proceeds of certain asset sales or equity issuances. The Company made a scheduled principal payment of $498,000 on December 31, 2008 and will make another scheduled principal payment of $498,000 on March 31, 2009. The Company will also make a mandatory prepayment of $9.7 million on March 31, 2009 from its annual excess cash flow. This payment will be applied against any scheduled principal payments for the twelve month period following the excess cash flow payment. A principal payment will also be due on June 30, 2010 in the amount of $478,000.

At the end of each of the quarters ending September 30, 2010, December 31, 2010 and March 31, 2011, a scheduled principal payment of $45.5 million will be due, with a final installment representing the balance due on April 22, 2011, the final maturity date.

At December 31, 2008, the entire amount of $30.0 million under the revolving credit facility remained available.

Liquidity and Capital Resources

Overview of Liquidity

Our primary operating cash requirements include the payment of salaries, incentive compensation and related benefits and other headcount-related costs as well as the costs of office facilities and information technology systems. We fund these requirements through cash collections from our customers for the purchase of our software, consulting services and maintenance services. Amounts due from customers for software license and maintenance services are generally billed at the beginning of the contract term.

The cost of our recent acquisitions has been financed with available cash flow and, to the extent necessary, short-term borrowings from our revolving credit facility. These borrowings are repaid in subsequent periods with available cash provided by operating activities. At December 31, 2008, we had no outstanding borrowings under our revolving credit facility.

Historically our cash flows have been subject to variability from year-to-year primarily as a result of one-time or infrequent events. For example, in 2006, we refinanced our stockholder notes, which did not require any interest payment in 2005, with an incremental term loan which requires quarterly interest payments. This refinancing shifted the cash payment of $5.5 million for 2005 interest accrued into 2006. We expect that our future growth will continue to require additional working capital. We believe that anticipated cash flows from operations and available sources of funds (including available borrowings under our revolving credit facility) will

 

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provide sufficient liquidity for us to fund our business and meet our obligations for the next 12 months. However, we may require liquidity in addition to our existing cash balances and future cash flow from operations to fund future business needs and debt repayment obligations beyond the next 12 months by raising additional funds or refinancing our debt.

In the fourth quarter of 2007, we completed our initial public offering. The net proceeds to the Company were $42.6 million which were used to repay a $25.0 million balance on our revolving credit facility and to make a $17.6 million prepayment on our term loan.

Analysis of Cash Flows

For the year ended December 31, 2008, net cash provided by operating activities was $42.6 million compared to $19.1 million provided during the comparable period of 2007. This increase of $23.4 million is primarily driven by the additional cash associated with increased customer payments of $23.9 million offset by higher cash payments for income taxes and other expenses in the current year. For the year ended December 31, 2007, net cash provided by operating activities was $19.1 million compared to $18.4 million provided during the comparable period of 2006. This increase of $0.7 million is primarily driven by the additional cash associated with the increase in net income of $7.2 million along with other net increases in cash provided by operating activities offset by higher cash payments for income taxes of $7.6 million in 2007.

Net cash used in investing activities was $24.0 million for the year ended December 31, 2008, compared to $15.6 million used during the comparable period of 2007. The increase of $8.4 million is due to cash used in 2008 of $16.4 for the acquisition of MPM, AIM contingent consideration of $1 million, and additional consideration for Welcom of $0.5 million as compared to 2007 for which we paid $6.1 million for AIM and WSTP. Other cash used in investing activities of $5.7 million was associated with purchases of property and equipment in 2008. Net cash used in investing activities was $15.6 million for the year ended December 31, 2007, compared to $38.3 million used during the comparable period of 2006. The decrease was primarily due to two acquisitions, AIM and WSTP which accounted for $6.1 million of our overall cash usage. The remaining use of cash during this period was $9.1 million for purchases of property and equipment.

Net cash provided by financing activities was $0.3 million for the year ended December 31, 2008, compared to $6.8 million provided during the year ended December 31, 2007. This decrease is due to proceeds from our initial public offering in the fourth quarter of 2007 of $43.0 million, $22.5 million in proceeds from the issuance of debt in 2007, offset by higher debt repayments of $59.2 million in 2007. In addition, proceeds from exercise of stock options and the related tax benefit were higher by $4.7 million in 2007. The proceeds from the stock option activity in 2007 was offset by $4.8 million in payments made in 2007 to stockholders and the redemption of stock in relation to our capitalization. We used $42.6 million in net proceeds from our initial public offering to pay down $25.0 million of indebtedness on our outstanding revolving credit facility and $17.6 million on our term loan. As of December 31, 2008 we had no borrowings against our revolving credit facility. Net cash provided by financing activities was $6.8 million for the year ended December 31, 2007, compared to $8.8 million provided during the year ended December 31, 2006. In the fourth quarter of 2007, the initial public offering contributed cash of $43.0 million from the sale of common stock and $5.7 million in proceeds related to the exercise of stock options and related tax benefit. We used $42.6 million in net proceeds to pay down $25.0 million of indebtedness on our outstanding revolving credit facility and $17.6 million on our term loan.

In 2006, we retired our subordinated debentures with $100 million of additional borrowings under our credit agreement. We also incurred $18 million of net borrowings under our revolving credit facility and received $1.1 million in proceeds from the sale of common stock. These borrowings financed the payment of a $7.0 million liability to certain of the selling stockholders arising from the 2005 recapitalization, and the payment of $1.9 million in principal reductions on the term loan and $1.3 million in debt issuance costs. The net cash provided by these borrowings was also used to finance part of the cost of the CSSI acquisition.

 

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Impact of Seasonality

Fluctuations in our quarterly software license fee revenues reflect in part, seasonal fluctuations driven by our customers’ procurement cycles for enterprise software and other factors. These factors have historically yielded a peak in software license fee revenue in the fourth quarter due to increased spending by our customers during that time. However, for the year ended December 31, 2008, our fourth quarter software license fee revenues was not our highest quarter, due in part to financial and economic conditions prevailing at that time. Consequently, past seasonality may not be indicative of current or future seasonality.

Our consulting services revenues are impacted by software license sales, the availability of our consulting resources to work on customer implementations, and the adequacy of our contracting activity to maintain full utilization of our available resources. As a result, services revenues are much less subject to seasonal fluctuations.

Our maintenance revenues are not subject to significant seasonal fluctuations although cash flow from maintenance fees is impacted by the timing of annual maintenance renewals, which are usually higher in the first and fourth quarters of the year.

Contractual Obligations and Commitments

We have various contractual obligations and commercial commitments. Our material capital commitments consist of term loan related debt obligations and commitments under facilities and operating leases. We rarely enter into binding purchase commitments. The following table summarizes our existing contractual obligations and contractual commitments as of December 31, 2008:

 

     Payments Due By December 31,

Contractual Obligations

   Total    2009    2010    2011    2012    2013    Thereafter
     (dollars in thousands)

Term loan

   $ 192,815    $ 10,154    $ 91,570    $ 91,091    —      $ —      $ —  

Operating leases

     21,131      7,161      6,861      5,625    1,416      68      —  

Liability for redemption of stock in recapitalization

     317      317      —        —      —        —        —  

The table above does not include interest payments with respect to the outstanding term loan, which are variable and therefore fluctuate with interest rate fluctuations. Based on the variable rate debt outstanding as of December 31, 2008, a hypothetical 1% increase in interest rates would increase interest expense by approximately $1.9 million on an annual basis.

Following the repayment of $0.5 million in the fourth quarter of 2008, our scheduled repayments of the outstanding term loan balance are $10.1 million in 2009, which includes a scheduled repayment of $0.5 million and a prepayment of $9.7 million, $91.6 million in 2010, and a scheduled principal repayment of $91.1 million in 2011. However, the amount and timing of these scheduled payments could vary based on the required mandatory prepayments from our annual excess cash flow as defined in the Credit Agreement.

The above table does not include approximately $1.0 million of long-term income tax liabilities recorded in accordance with FIN 48 because we are unable to reasonably estimate the timing of these potential future payments.

Off-Balance Sheet Arrangements

As of December 31, 2008, we had no off-balance sheet arrangements.

 

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Indemnification

We provide limited indemnification to our customers against intellectual property infringement claims made by third parties arising from the use of our software products. Due to the established nature of our primary software products and the lack of intellectual property infringement claims in the past, we cannot estimate the fair value nor determine the total nominal amount of the indemnification, if any. Estimated losses for such indemnification are evaluated under SFAS No. 5, Accounting for Contingencies, as interpreted by FIN No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees and Indebtedness of Others. We have secured copyright and trademark registrations for our software products with the U.S. Patent and Trademark Office, and we have intellectual property infringement indemnification from our third party partners whose technology may be embedded or otherwise bundled with our software products. Therefore, we generally consider the probability of an unfavorable outcome in an intellectual property infringement case to be relatively low. We have not encountered material costs as a result of such obligations and have not accrued any liabilities related to such indemnifications.

Recent Accounting Pronouncements

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (“SFAS 159”). SFAS 159 provides the option to carry many financial assets and liabilities at fair values, with changes in fair value recognized in earnings. SFAS 159 is effective for fiscal years beginning after November 15, 2007. Currently, we have elected not to adopt the fair value provisions in SFAS 159.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (“SFAS 141R”), which replaces SFAS 141. SFAS 141R requires assets and liabilities acquired in a business combination, contingent consideration, and certain acquired contingencies to be measured at their fair values as of the date of acquisition. SFAS 141R also requires that acquisition-related costs and restructuring costs be recognized separately from the business combination. SFAS 141R is effective for fiscal years beginning after December 15, 2008. For business combinations entered into after the effective date of SFAS 141R, prospective application of the new standard is applied. The guidance in SFAS 141 is applied to business combinations entered into before the effective date of SFAS 141R.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements—an amendment of ARB No. 51 (“SFAS 160”). SFAS 160 clarifies the accounting for noncontrolling interests and establishes accounting and reporting standards for the noncontrolling interest in a subsidiary, including classification as a component of equity. SFAS 160 is effective for fiscal years beginning after December 15, 2008. We do not currently have any noncontrolling interests.

In February 2008, the FASB issued FASB Staff Position 157-2, Effective Date of FASB Statement No. 157 (“FSP 157-2”). The provisions of SFAS No. 157, Fair Value Measurements (“SFAS 157”), which provide guidance for, among other things, the definition of fair value and the methods used to measure fair value, were adopted January 1, 2008 for financial instruments. The provisions adopted in 2008 did not have an impact on the Company’s financial statements. FSP 157-2 delays the effective date of SFAS No. 157 for all nonrecurring fair value measurements of nonfinancial assets and liabilities (except for those that are recognized or disclosed at fair value in the financial statements on a recurring basis) until fiscal years beginning after November 15, 2008, or January 1, 2009 for Deltek. We are in the process of evaluating the impact of the provisions to be adopted in 2009.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities—an amendment of FASB Statement No. 133 (“SFAS 161”). SFAS 161 requires enhanced disclosures regarding how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for, and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. SFAS 161 is effective for fiscal years beginning after November 15, 2008, with early adoption permitted. The Company does not currently have any derivative instruments.

 

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In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS 162”). SFAS 162 identifies the sources of accounting principles and provides the framework for selecting the principles used in the preparation of financial statements of nongovernmental entities that are presented in conformity with accounting principles generally accepted in the United States. SFAS 162 was effective November 15, 2008. The adoption of SFAS 162 did not have an impact on our current accounting practices.

In June 2008, the FASB issued FASB Staff Position EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities, (“FSP EITF 03-6-1”). FSP EITF 03-6-1 addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting, and therefore need to be included in the computation of earnings per share under the two-class method as described in FASB Statement of Financial Accounting Standards No. 128, “Earnings per Share.” FSP EITF 03-6-1 is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 and earlier adoption is prohibited. All prior-period earnings per share (“EPS”) data presented shall be adjusted retrospectively (including interim financial statements, summaries of earnings and selected financial data) to conform to the provisions of this Staff Position. We are in the process of evaluating the impact of the provision to be adopted in 2009.

In October 2008, the FASB issued FASB Staff Position 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active, (“FSP 157-3”). FSP 157-3 clarifies the application of SFAS 157 in a market that is not active and provides key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. The guidance emphasizes that determining fair value in an inactive market depends on the facts and circumstances and may require the use of significant judgments. FSP 157-3 is effective upon issuance, including prior periods for which financial statements have not been issued, and therefore was effective for us at September 30, 2008. We currently do not have any financial assets in a market which is inactive.

In November 2008 EITF 08-7, Accounting for Defensive Intangible Assets (“EITF 08-7”) was issued. This Issue clarifies the accounting for acquired intangible assets in situations in which the acquirer does not intend to actively use the asset but intends to hold (lock up) the asset to prevent its competitors from obtaining access to the asset (a defensive intangible asset). Under EITF 08-7 defensive intangible assets will be treated as a separate asset recognized at fair value and assigned a useful life in accordance with FAS 142. EITF 08-7 is effective for intangible assets acquired on or after the beginning of the first annual reporting period beginning on or after December 15, 2008, or January 1, 2009 for Deltek. We will apply the guidance in EITF 08-7 prospectively to intangible assets acquired after the effective date of EITF 08-7. We do not expect the adoption of EITF 08-7 to have a material impact on our consolidated financial statements.

 

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Risk

Our exposure to market risk for changes in interest rates relates primarily to our outstanding debt and cash and cash equivalents consisting primarily of funds held in money-market accounts on a short-term basis with no withdrawal restrictions and contain no significant investments in auction rate securities. At December 31, 2008, we had $35.8 million in cash and cash equivalents. Our interest expense associated with our term loan and revolving credit facility will vary with market rates. As of December 31, 2008, we had approximately $192.8 million in variable rate debt outstanding. Based upon the variable rate debt outstanding as of December 31, 2008, a hypothetical 1% increase in interest rates would increase interest expense by approximately $1.9 million on an annual basis, and likewise decrease our earnings and cash flows.

We cannot predict market fluctuations in interest rates and their impact on our variable rate debt, or whether fixed-rate long-term debt will be available to us at favorable rates, if at all. Consequently, future results may differ materially from the hypothetical 1% increase discussed above.

Based on the investment interest rate and our cash and cash equivalents balance as of December 31, 2008, a hypothetical 1% decrease in interest rates would decrease interest income by approximately $0.4 million on an annual basis, and likewise decrease our earnings and cash flows. We do not currently use derivative financial instruments in our investment portfolio.

 

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Foreign Currency Exchange Risk

Our results of operations and cash flows are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the British pound, the Philippine peso, and the Australian dollar. As our international operations continue to grow, we may choose to use foreign currency forward and option contracts to manage currency exposures. We do not currently have any such contracts in place, nor did we have any such contracts during 2008, 2007, or 2006. To date, exchange rate fluctuations have not had a material impact on our operating results and cash flows given the scope of our international presence.

 

Item 8. Financial Statements and Supplementary Data

Our consolidated financial statements, together with the related notes and the report of independent registered public accounting firm, are set forth on the pages indicated in Item 15.

 

Item 9. Changes In and Disagreements with Accountants on Accounting and Financial Disclosure

Not applicable.

 

Item 9A. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in our periodic reports pursuant to the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required financial disclosures.

Our management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Exchange Act Rules 13a-15(e) or 15d-15(e) as of December 31, 2008. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2008.

Our management’s report on internal control over financial reporting (as defined in Exchange Act Rules 13(a)-15(e) or 15(d)-15(f)) and the independent registered public accounting firm’s related audit report on the effectiveness of our internal control over financial reporting are included in this Item 9A of this Annual Report on Form 10-K.

Changes in Internal Control Over Financial Reporting

There have been changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) as a result of the remediation activities described below during the quarter ended December 31, 2008 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

As disclosed in Item 7 of the Annual Report on Form 10-K filed on March 31, 2008, management reported that material weaknesses existed in our internal controls as of December 31, 2007 and was in the process of remediating these weaknesses. Management has undertaken additional remediation activities during 2008 and as a result, all of the material weaknesses previously disclosed were remediated as of December 31, 2008.

We engaged a third-party consulting firm to help us execute our plan to improve the effectiveness of our internal control over financial reporting. The costs incurred for services provided were $2.2 million and $3.8 million for the years ending December 31, 2008 and 2007, respectively.

 

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Actions Relating to Material Weaknesses Remediated as of December 31, 2008

The discussion below describes the actions that management took during 2007 and 2008 to remediate the previously disclosed material weaknesses.

Financial Close and Reporting

 

   

Lack of formal financial policies and procedures

We identified policies and procedures that were of the most significance to our financial reporting and accounting processes. These and other critical policies and procedures were formally documented and communicated to appropriate personnel. These policies and procedures are periodically updated to reflect emerging accounting policy issues and changes to the business operations.

 

   

Inadequate account reconciliation and analysis process

We implemented improved account reconciliation and review processes to ensure that critical account reconciliations were performed and changes in our balance sheet were closely monitored on a timely basis. In addition, we hired additional personnel in the finance and accounting functions to provide more resources for the account reconciliation and analysis process.

 

   

Lack of spreadsheet controls

We have reduced the degree of reliance on spreadsheets used to prepare our financial statements particularly with the calculation of maintenance revenue and stock compensation. Management will continue the process of implementing new system applications to further reduce our reliance on spreadsheets. Management has also implemented a number of controls and processes to improve our access, change and logic controls over financially significant spreadsheets. We developed a spreadsheet policy, which details our risk-based approach to spreadsheet classification and guidance on the implementation of spreadsheet controls. We created a secure document repository that provides access and version controls to store all key financial spreadsheets. We also established a user administration and monitoring process for that repository to ensure access is appropriate and authorized.

Revenue

 

   

Inadequate controls around accuracy of billing and revenue recognition

We implemented a new software and maintenance billing system that significantly reduced our reliance on manual processes and spreadsheets for maintenance billing and revenue recognition. We also implemented a web-based mailbox for the logging and monitoring of maintenance invoice corrections and inquiries. We strengthened our internal controls over maintenance revenue with implementation of several processes to improve the accuracy of our maintenance billings and revenue recognition. In addition, we hired additional finance and accounting staff to provide more resources over maintenance billing.

For consulting revenue, management launched an improvement initiative using an external consultant to review the contract-to-invoice processes. A cross-functional team meets monthly to analyze and report on the progress being made and implement recommended improvements. We have improved our internal controls over the project set-up, time and expense reporting, billing, and review and approval processes. We have also hired additional finance and accounting personnel to provide more resources over consulting services billing.

 

   

Inadequate documentation and review of software revenue recognition decisions

We increased the size and skill base of our staff in the area of software revenue recognition. We implemented new review procedures to ensure timely accounting review and documentation of software agreements including contract checklists and formal credit reviews of customers.

 

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Information Technology

 

   

Inadequate systems access and change management controls

We established and implemented program development and change management policies and procedures to prevent unauthorized changes to systems and related technology. In addition, we performed a comprehensive review of system access rights and established appropriate access to assure proper segregation of duties by functional area.

Management’s Report on Internal Control Over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Our management is required to assess the effectiveness of our internal control over financial reporting as of the end of the fiscal year and report, based on that assessment, whether our internal control over financial reporting is effective.

Our internal control over financial reporting is a process designed under the supervision of our Chief Executive Officer and our Chief Financial Officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of our financial statements for external reporting purposes in accordance with accounting principles generally accepted in the United States.

Our internal control over financial reporting includes policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions of assets; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States, and that receipts and expenditures are being made only in accordance with authorizations of the Company’s management and board of directors; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.

A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in any control system, internal control over financial reporting may not prevent or detect misstatements due to human error, or the improper circumvention or overriding of internal controls. In addition, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions and that the degree of compliance with the policies or procedures may change over time.

As of December 31, 2008, management conducted an assessment of the effectiveness of our internal control over financial reporting based on the framework established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this assessment, management has determined that our internal control over financial reporting as of December 31, 2008 was effective.

The effectiveness of our internal control over financial reporting as of December 31, 2008 has been audited by Deloitte & Touche LLP, our independent registered public accounting firm, who also audited our consolidated financial statements included in this Form 10-K.

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Audit Committee and Stockholders of

Deltek, Inc.

Herndon, Virginia

We have audited the internal control over financial reporting of Deltek, Inc. and its subsidiaries (the “Company”) as of December 31, 2008, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements as of and for the year ended December 31, 2008 of the Company and our report dated March 12, 2009 expressed an unqualified opinion on those financial statements.

/s/ Deloitte & Touche, LLP

McLean, Virginia

March 12, 2009

 

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Item 9B. Other Information

None.

PART III

Certain information required by Part III is omitted from this Annual Report as we intend to file our definitive Proxy Statement for the 2009 Annual Meeting of Stockholders pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended, not later than 120 days after the end of the fiscal year covered by this Annual Report, and certain information included in the Proxy Statement is incorporated herein by reference.

 

Item 10. Directors, Executive Officers and Corporate Governance

The information required by this Item is incorporated herein by reference to the information provided under the headings “Executive Officers of the Company,” “Election of Directors,” “Section 16(a) Beneficial Ownership Reporting Compliance” and “Corporate Governance” in our definitive proxy statement for the 2009 Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission no later than 120 days after the fiscal year ended December 31, 2008 (the “2009 Proxy Statement”).

 

Item 11. Executive Compensation

The information required by this Item is incorporated herein by reference to the information provided under the headings “Executive and Director Compensation,” “Executive and Director Compensation – Compensation Committee Report” and “Corporate Governance – Board Meetings and Committees – Compensation Committee Interlocks and Insider Participation” in the 2009 Proxy Statement.

 

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by this Item is incorporated herein by reference to the information provided under the headings “Ownership of Securities” and “Executive and Director Compensation” in the 2009 Proxy Statement.

 

Item 13. Certain Relationships and Related Transactions, and Director Independence

The information required by this Item is incorporated herein by reference to the information provided under the headings “Related Party Transactions” and “Corporate Governance” in the 2009 Proxy Statement.

 

Item 14. Principal Accountant Fees and Services

The information required by this Item is incorporated herein by reference to the information provided under the heading “Principal Accounting Fees and Services” in the 2009 Proxy Statement.

 

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PART IV

 

Item 15. Exhibits and Financial Statement Schedules

(a) Consolidated Financial Statements

 

  1. Consolidated Financial Statements. The consolidated financial statements as listed in the accompanying “Index to Consolidated Financial Information” are filed as part of this Annual Report.

 

  2. Consolidated Financial Statement Schedules. Schedules have been omitted because they are not applicable or are not required or the information required to be set forth in those schedules is included in the consolidated financial statements or related notes.

All other schedules not listed in the accompanying index have been omitted as they are either not required or not applicable, or the required information is included in the consolidated financial statements or the notes thereto.

(b) Exhibits

The exhibits listed in the Index to Exhibits are filed as part of this Annual Report on Form 10-K.

 

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

DELTEK, INC.

By:    

 

/s/    KEVIN T. PARKER

Name:

  Kevin T. Parker

Title:

  Chairman, President and Chief Executive Officer

Date: March 13, 2009

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

 

Name

  

Position

  

Date

/s/    KEVIN T. PARKER

Kevin T. Parker

   Chairman, President and Chief Executive Officer (Principal Executive Officer)    March 13, 2009

/s/    MARK WABSCHALL

Mark Wabschall

   Executive Vice President, Chief Financial Officer and Treasurer (Principal Accounting Officer)    March 13, 2009

/s/    ALOK SINGH

Alok Singh

   Director    March 11, 2009

/s/    MICHAEL B. AJOUZ

Michael B. Ajouz

   Director    March 11, 2009

/s/    NANCI E. CALDWELL

Nanci E. Caldwell

   Director    March 13, 2009

/s/    KATHLEEN DELASKI

Kathleen deLaski

   Director    March 13, 2009

/s/    JOSEPH M. KAMPF

Joseph M. Kampf

   Director    March 10, 2009

/s/    STEVEN B. KLINSKY

Steven B. Klinsky

   Director    March 11, 2009

/s/    THOMAS M. MANLEY

Thomas M. Manley

   Director    March 13, 2009

/s/    ALBERT A. NOTINI

Albert A. Notini

   Director    March 13, 2009

/s/    JANET R. PERNA

Janet R. Perna

   Director    March 13, 2009

 

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Item 15 (a) 1—INDEX TO CONSOLIDATED FINANCIAL INFORMATION

 

     Page

Report of Independent Registered Public Accounting Firm

   F-2

Consolidated Balance Sheets at December 31, 2008 and December 31, 2007

   F-3

Consolidated Statements of Operations for the Years Ended December 31, 2008, 2007 and 2006

   F-4

Consolidated Statements of Cash Flows for the Years Ended December 31, 2008, 2007 and 2006

   F-5

Consolidated Statements of Changes in Stockholders’ Deficit at December 31, 2008, 2007 and 2006

   F-7

Notes to Consolidated Financial Statements

   F-8

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Audit Committee and Stockholders of

Deltek, Inc.

Herndon, Virginia

We have audited the accompanying consolidated balance sheets of Deltek, Inc. and its subsidiaries (the “Company”) as of December 31, 2008 and 2007, and the related consolidated statements of operations, stockholders’ deficit, and cash flows for each of the three years in the period ended December 31, 2008. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Deltek, Inc. and its subsidiaries as of December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Notes 1 and 12 to the consolidated financial statements, in 2007 the Company changed its method of accounting for uncertain tax positions to conform to the Financial Accounting Standards Board (FASB) Interpretation No. 48, Accounting for Uncertainty in Income Taxes.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of December 31, 2008, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 12, 2009 expressed an unqualified opinion on the Company’s internal control over financial reporting.

/s/ Deloitte & Touche, LLP

McLean, Virginia

March 12, 2009

 

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DELTEK, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

     December 31
2008
    December 31
2007
 

ASSETS

  

CURRENT ASSETS:

    

Cash and cash equivalents

   $ 35,788     $ 17,091  

Accounts receivable, net of allowance of $2,195 and $2,866 at December 31, 2008 and December 31, 2007, respectively

     47,747       55,663  

Deferred income taxes

     4,635       5,027  

Prepaid expenses and other current assets

     6,874       7,104  

Income taxes receivable

     846       —    
                

TOTAL CURRENT ASSETS

     95,890       84,885  

PROPERTY AND EQUIPMENT, NET

     14,639       13,575  

CAPITALIZED SOFTWARE DEVELOPMENT COSTS, NET

     1,438       2,399  

LONG-TERM DEFERRED INCOME TAXES

     4,125       354  

INTANGIBLE ASSETS, NET

     17,396       13,132  

GOODWILL

     57,654       50,082  

OTHER ASSETS

     2,130       3,253  
                

TOTAL ASSETS

   $ 193,272     $ 167,680  
                

LIABILITIES AND STOCKHOLDERS’ DEFICIT

    

CURRENT LIABILITIES:

    

Current portion of long-term debt

   $ 10,154     $ 498  

Accounts payable and accrued expenses

     28,734       33,310  

Accrued liability for redemption of stock in recapitalization

     317       569  

Deferred revenues

     21,296       22,046  

Income taxes payable

     —         729  
                

TOTAL CURRENT LIABILITIES

     60,501       57,152  

LONG-TERM DEBT

     182,661       192,815  

OTHER TAX LIABILITIES

     1,003       551  

OTHER LONG-TERM LIABILITIES

     2,917       3,350  
                

TOTAL LIABILITIES

     247,082       253,868  

COMMITMENTS AND CONTINGENCIES (NOTE 17)

    

STOCKHOLDERS’ DEFICIT:

    

Preferred stock, $0.001 par value—authorized, 5,000,000 shares; none issued or outstanding at December 31, 2008 and December 31, 2007

     —         —    

Common stock, $0.001 par value—authorized, 200,000,000 shares; issued and outstanding, 43,474,220 and 43,046,523 shares at December 31, 2008 and December 31, 2007, respectively

     43       43  

Class A common stock, $0.001 par value—authorized, 100 shares; issued and outstanding, 100 shares at December 31, 2008 and December 31, 2007

     —         —    

Additional paid-in capital

     177,249       167,527  

Accumulated deficit

     (229,905 )     (253,424 )

Accumulated other comprehensive deficit

     (1,197 )     (334 )
                

TOTAL STOCKHOLDERS’ DEFICIT

     (53,810 )     (86,188 )
                

TOTAL LIABILITIES AND STOCKHOLDERS’ DEFICIT

   $ 193,272     $ 167,680  
                

See accompanying notes to consolidated financial statements.

 

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DELTEK, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except share and per share data)

 

     Year Ended December 31  
     2008     2007     2006  

REVENUES:

  

Software license fees

   $ 77,398     $ 87,118     $ 74,958  

Consulting services

     91,566       83,353       66,573  

Maintenance and support services

     115,658       102,903       83,172  

Other revenues

     4,743       4,872       3,565  
                        

Total revenues

     289,365       278,246       228,268  
                        

COST OF REVENUES:

      

Cost of software license fees

     6,563       7,855       6,867  

Cost of consulting services

     75,327       72,559       54,676  

Cost of maintenance and support services

     21,404       17,387       15,483  

Cost of other revenues

     5,172       5,276       4,634  
                        

Total cost of revenues

     108,466       103,077       81,660  
                        

GROSS PROFIT

     180,899       175,169       146,608  
                        

OPERATING EXPENSES:

      

Research and development

     45,819       42,925       37,293  

Sales and marketing

     53,764       45,299       37,807  

General and administrative

     33,384       30,619       26,622  

Restructuring charge

     980       —         —    
                        

Total operating expenses

     133,947       118,843       101,722  
                        

INCOME FROM OPERATIONS

     46,952       56,326       44,886  

Interest income

     637       295       397  

Interest expense

     (11,002 )     (18,493 )     (20,098 )

Other (expense) income, net

     (474 )     (132 )     82  
                        

INCOME BEFORE INCOME TAXES

     36,113       37,996       25,267  

Income tax expense

     12,594       15,477       9,969  
                        

NET INCOME

   $ 23,519     $ 22,519     $ 15,298  
                        

EARNINGS PER SHARE

      

Basic

   $ 0.55     $ 0.56     $ 0.39  
                        

Diluted

   $ 0.53     $ 0.54     $ 0.38  
                        

COMMON SHARES AND EQUIVALENTS OUTSTANDING

      

Basic weighted average shares

     43,120,922       40,036,600       39,331,894  
                        

Diluted weighted average shares

     44,279,819       41,617,407       40,262,240  
                        

See accompanying notes to consolidated financial statements.

 

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DELTEK, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

     Year Ended December 31  
     2008     2007     2006  

CASH FLOWS FROM OPERATING ACTIVITIES:

      

Net income

   $ 23,519     $ 22,519     $ 15,298  

Adjustments to reconcile net income to net cash provided by operating activities:

      

Provision for doubtful accounts

     1,023       2,259       2,052  

Depreciation and amortization

     10,188       9,241       7,797  

Amortization of debt issuance costs

     793       1,096       3,048  

Write down of acquired in process research and development

     290       160       300  

Stock-based compensation expense

     8,480       6,134       1,686  

Employee stock purchase plan expense

     282       35       —    

Stock issued in lieu of director fees

     —         —         20  

Loss on disposal of fixed assets

     469       214       28  

Deferred income taxes

     (2,586 )     (2,464 )     1,874  

Changes in assets and liabilities:

      

Accounts receivable, net

     6,302       (17,586 )     (17,708 )

Prepaid expenses and other assets

     282       (1,794 )     2,980  

Accounts payable and accrued expenses

     (4,022 )     3,343       8,662  

Interest payable on stockholder notes

     —         —         (5,467 )

Income taxes payable/receivable

     (1,675 )     2,544       294  

Excess tax benefit from stock option exercises

     (64 )     (1,759 )     —    

Other tax liabilities

     452       21       —    

Other long-term liabilities

     (630 )     (120 )     661  

Deferred revenues

     (547 )     (4,748 )     (3,083 )
                        

Net Cash Provided by Operating Activities

     42,556       19,095       18,442  
                        

CASH FLOWS FROM INVESTING ACTIVITIES:

      

Acquisitions, net of cash acquired

     (17,924 )     (6,101 )     (32,769 )

Purchase of property and equipment

     (5,687 )     (9,055 )     (4,671 )

Capitalized software development costs

     (349 )     (412 )     (856 )
                        

Net Cash Used in Investing Activities

     (23,960 )     (15,568 )     (38,296 )
                        

CASH FLOWS FROM FINANCING ACTIVITIES:

      

Issuance of common stock

     —         87       1,051  

Proceeds from exercise of stock options

     277       3,950       12  

Excess tax benefit from stock option exercises

     64       1,759       7  

Proceeds from issuance of stock under employee stock purchase plan

     712       —         —    

Sale of common stock in initial public offering, net of offering costs

     (275 )     42,991       —    

Redemption of stock and stockholder payments in recapitalization

     —         (4,780 )     (7,038 )

Proceeds from the issuance of debt

     —         22,500       125,000  

Debt issuance costs

     —         —         (1,312 )

Repayment of debt

     (498 )     (59,712 )     (108,900 )
                        

Net Cash Provided by Financing Activities

     280       6,795       8,820  
                        

IMPACT OF FOREIGN EXCHANGE RATES ON CASH AND CASH EQUIVALENTS

     (179 )     102       22  
                        

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

     18,697       10,424       (11,012 )

CASH AND CASH EQUIVALENTS––Beginning of period

     17,091       6,667       17,679  
                        

CASH AND CASH EQUIVALENTS––End of period

   $ 35,788     $ 17,091     $ 6,667  
                        

See accompanying notes to consolidated financial statements.

 

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DELTEK, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

     Year Ended December 31
     2008    2007    2006

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

        

Noncash activity:

        

Stock issued for acquisitions

   $ —      $ 500    $ 919
                    

Accrued liability for acquisition of business

   $ —      $ 550    $ 750
                    

Accrued liability for purchases of property and equipment

   $ 785    $ 69    $ 868
                    

Accrued liability for public offering transaction costs

   $ —      $ 275    $ —  
                    

Cash paid during the period for:

        

Interest

   $ 11,928    $ 15,927    $ 22,352
                    

Income taxes

   $ 16,341    $ 15,297    $ 7,717
                    

 

 

 

See accompanying notes to consolidated financial statements.

 

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DELTEK, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ DEFICIT

(in thousands, except share data)

 

    Preferred Stock   Common Stock   Class A
Common Stock
  Paid-In
Capital
    Accumulated
Deficit
    Accumulated
Other
Comprehensive

Deficit
    Total
Stockholders’

Deficit
 
    Shares     Amount   Shares   Amount   Shares   Amount        

Balance at January 1, 2006

  100     $ —     39,161,440   $ 39   —     $ —     $ 108,655     $ (291,241 )   $ (562 )   $ (183,109 )
                                                               

Net income

  —         —     —       —     —       —       —         15,298       —         15,298  

Foreign currency translation adjustments

  —         —     —       —     —       —       —         —         51       51  
                         

Comprehensive income

                      15,349  

Sale of common stock

  —         —     133,252     —     —       —       1,051       —         —         1,051  

Stock issued for acquisitions

  —         —     105,616     —     —       —       919       —         —         919  

Stock options exercised

  —         —     3,463     —     —       —       12       —         —         12  

Tax benefit on stock options exercised

  —         —     —       —     —       —       7       —         —         7  

Stock compensation

  —         —     —       —     —       —       1,686       —         —         1,686  

Stock issued in lieu of director fees

  —         —     2,222     —     —       —       20       —         —         20  
                                                               

Balance at December 31, 2006

  100     $ —     39,405,993   $ 39   —     $ —     $ 112,350     $ (275,943 )   $ (511 )   $ (164,065 )
                                                               

Net income

  —         —     —       —     —       —       —         22,519       —         22,519  

Foreign currency translation adjustments

  —         —     —       —     —       —       —         —         177       177  
                         

Comprehensive income

                      22,696  

Sale of common stock

  —         —     6,115     —     —       —       87       —         —         87  

Stock issued for acquisitions

  —         —     38,109     —     —       —       500       —         —         500  

Sale of common stock in initial public offering

  —         —     3,009,475     3   —       —       42,713       —         —         42,716  

Stock options exercised

  —         —     586,831     1   —       —       3,949       —         —         3,950  

Tax benefit on stock options exercised

  —         —     —       —     —       —       1,759       —         —         1,759  

Stock compensation

  —         —     —       —     —       —       6,169       —         —         6,169  

Conversion of preferred stock to

                   

Class A common stock

  (100 )     —     —       —     100     —       —         —         —         —    
                                                               

Balance at December 31, 2007

  —       $ —     43,046,523   $ 43   100   $ —     $ 167,527     $ (253,424 )   $ (334 )   $ (86,188 )
                                                               

Net income

  —         —     —       —     —       —       —         23,519       —         23,519  

Foreign currency translation adjustments

  —         —     —       —     —       —       —         —         (863 )     (863 )
                         

Comprehensive income

                      22,656  

Issuance of common stock under the employee stock purchase plan

  —         —     82,736     —     —       —       712       —         —         712  

Stock options exercised

  —         —     59,311     —     —       —       277       —         —         277  

Issuance of restricted stock awards, net

  —         —     285,650     —     —       —       —         —         —         —    

Tax benefit on stock options exercised

  —         —     —       —     —       —       64       —         —         64  

Tax deficiency from other stock option activity

  —         —     —       —     —       —       (93 )     —         —         (93 )

Stock compensation

  —         —     —       —     —       —       8,762       —         —         8,762  
                                                               

Balance at December 31, 2008

  —       $ —     43,474,220   $ 43   100   $ —     $ 177,249     $ (229,905 )   $ (1,197 )   $ (53,810 )
                                                               

See accompanying notes to consolidated financial statements.

 

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DELTEK, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.    ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization

Deltek, Inc. (“Deltek” or the “Company”) is a leading provider of enterprise applications software and related services designed specifically for project-focused organizations. Project-focused organizations generate revenue from defined, discrete, customer-specific engagements or activities. Project-focused organizations typically require specialized software to help them automate complex business processes around the engagement, execution, and delivery of projects. Deltek’s software enables them to significantly enhance the visibility they have over all aspects of their operations by providing them increased control over their critical business processes, accurate project-specific financial information, and real-time performance measurements.

In April 2007, the Company converted to a Delaware corporation changing its name to “Deltek, Inc.” from a Virginia corporation under the name of “Deltek Systems, Inc.”

Initial Public Offering

In November 2007, the Company completed an initial public offering consisting of 9,000,000 shares of common stock at $18.00 per share. The total shares sold in the offering included 5,990,525 shares sold by selling stockholders and 3,009,475 shares sold by the Company.

After deducting the payment of underwriters’ discounts and commissions and offering expenses, the net proceeds to the Company from the sale of shares in the offering were $42.6 million. The net proceeds from the offering were used to repay a $25.0 million balance on the revolving credit facility and to make a $17.6 million prepayment on the outstanding term loan.

Principles of Consolidation

The consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America and include the accounts of the Company and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting periods. Areas of the financial statements where estimates may have the most significant effect include the allowance for doubtful accounts receivable and sales allowances, lives of tangible and intangible assets, impairment of long-lived and other assets, realization of deferred tax assets, accrued liabilities, stock option compensation, revenue recognition, valuation of acquired deferred revenue and intangible assets, and provisions for income taxes. Actual results could differ from those estimates.

Revenue Recognition

The Company’s revenues are generated primarily from three sources: licensing of its software products, providing maintenance and support for those products, and providing consulting services for those products. Deltek’s consulting services consist primarily of implementation services, training and assessment, and design services. A typical sales arrangement includes both software licenses and maintenance and may also include

 

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consulting services. Consulting services are also regularly sold separately from other elements generally on a time-and-materials basis. The Company recognizes revenue in accordance with Statement of Position (“SOP”) 97-2, Software Revenue Recognition, as amended by SOP 98-9, Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions, as well as Technical Practice Aids issued by the American Institute of Certified Public Accountants, and in accordance with the Securities and Exchange Commission Staff Accounting Bulletin (“SAB”) No. 104, Revenue Recognition.

Consulting services are generally not essential to the functionality of the Company’s software and are usually completed in three to six months, though larger implementations may take longer. The Company generally recognizes revenues for these services as they are performed. In rare situations in which the services are deemed essential to the functionality of the software in the customer’s environment, the Company recognizes the software and services revenue together in accordance with SOP 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts (“SOP 81-1”).

For sales arrangements involving multiple elements, where software licenses are sold together with maintenance and support, consulting, training, or other services, the Company recognizes revenue using the residual method as described in SOP 98-9. Under the residual method, to determine the amount to allocate to and recognize revenue on delivered elements, normally the license element of the arrangement, the Company first allocates and defers revenue for any undelivered elements based upon objective evidence of fair value of those elements. The objective evidence of fair value used is required to be specific to the Company and commonly referred to as vendor-specific objective evidence, or VSOE. The Company recognizes the difference between the total arrangement fee and the amount deferred for the undelivered elements as revenue for the delivered elements.

Sales taxes and other taxes collected from customers and remitted to governmental authorities are presented on a net basis and, as such, are excluded from revenues.

For maintenance and support agreements, VSOE is based upon historical renewal rates and, in some cases, renewal rates stated in the Company’s agreements.

For consulting services and training sold as part of a multiple element sales arrangement, VSOE is based upon the prices charged for those services when sold separately. For sales arrangements that require the Company to deliver future specified products or services in which VSOE of fair value is not available, the entire arrangement is deferred.

Under its standard perpetual software license agreements, the Company recognizes revenue from the license of software upon execution of a signed agreement and delivery of the software, provided that the software license fees are fixed and determinable, collection of the resulting receivable is probable, and VSOE exists to allow the allocation of a portion of the total fee to undelivered elements of the arrangement. If a right of return exists, revenue is recognized upon the expiration of that right.

The Company’s standard software license agreement does not include customer acceptance provisions; if acceptance provisions are provided, delivery is deemed to occur upon acceptance.

Software license fee revenues from resellers are recognized using a sell-through model whereby the Company recognizes revenue when these channels complete the sale and the Company delivers the software products.

The Company’s standard payment terms for its software license agreements are within six months. The Company considers the software license fee to be fixed or determinable unless the fee is subject to refund or adjustment or is not payable within six months. Revenue from arrangements with payment terms extending beyond six months is recognized as payments become due and payable.

Implementation, installation, and other consulting services are generally billed based upon hourly rates, plus reimbursable out-of-pocket expenses. Revenue on these arrangements is recognized based on hours actually incurred at the contract billing rates, plus out-of-pocket expenses. Implementation, installation, and other consulting services revenue under fixed-fee arrangements is generally recognized as the services are performed.

The Company generally sells training services at a fixed rate for each specific training session, at a per-attendee price and revenue is recognized upon the customer attending and completing the training. The

 

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Company also sells training on a time-and-materials basis. In situations where customers pay for services in advance of the services being rendered, the related prepayment is recorded as deferred revenue and recognized as revenue when the services are performed.

Maintenance and support services include unspecified periodic software upgrades or enhancements, bug fixes, and phone support. Annual maintenance and support initially represent between 15% and 25% of the related software license list price, depending upon the related product, and fees are generally payable quarterly. Customers generally prepay for maintenance, and these prepayments are recorded as deferred revenue and revenue is recognized ratably over the term of the agreement.

Other revenue includes fees collected for the Company’s annual user conference, which is typically held in the second quarter. Other revenue also includes the resale and sublicensing of third-party hardware and software products in connection with the software license and installation of the Company’s products, and is generally recognized upon delivery.

Cash and Cash Equivalents

The Company has concluded that its liquid investments qualify as cash and cash equivalents since they consist of money market fund investments that are readily convertible into cash and have maturity terms of three months or less that present an insignificant risk of change in value. In addition, the investments have a net asset value equal to $1.00, with no withdrawal restrictions and with no investments in auction rate securities.

The balance of the Company’s money market funds investments (in thousands) were as follows:

 

     Year Ended December 31
     2008      2007

Cash

   $ —        $ 2,344

Money Market Fund Investments

     35,788        14,747
               

Total Cash and Cash Equivalents

   $ 35,788      $ 17,091
               

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable consists of amounts due to the Company arising from normal business activities. The Company maintains an allowance for estimated losses resulting from the expected failure of some of its customers to make required payments (or “credit losses”) and a sales allowance for customer maintenance cancellations and consulting services adjustments. The provision for sales allowances are charged against the related revenue items and provision for doubtful accounts (credit losses) are recorded in “General and Administrative” expense. The Company estimates uncollectible amounts for both sales allowances and credit losses based upon historical trends, age of customer receivable balances, and evaluation of specific customer receivable activity.

Prepaid and Other Current Assets

Prepaid and other current assets primarily consist of prepaid fees for third party software, prepaid maintenance for internal use software, prepaid costs associated with the Company’s annual user conference, and other assets.

Concentrations of Credit Risk

Financial instruments that could subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents and accounts receivable. At December 31, 2008 the Company’s cash

 

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equivalents were invested in a money market fund that invests exclusively in AAA-rated (i) bills, notes and bonds issued by the U.S. Treasury, (ii) U.S. Government guaranteed repurchase agreements fully collateralized by U.S. Treasury obligations, and (iii) U.S. Government guaranteed securities. As a result, the risk of non-performance of the money market fund is very low. The money market fund has not experienced a decline in value and its net asset value has historically not dropped below $1.00. The credit risk with respect to accounts receivable is diversified due to the large number of entities comprising the Company’s customer base and credit losses have generally been within the Company’s estimates.

Fair Value of Financial Instruments

Effective January 1, 2008, the Company adopted SFAS No. 157, Fair Value Measurements (SFAS 157). The effect of adopting SFAS 157 did not have a material impact on the Company’s financial statements. SFAS 157 defines fair value, establishes a fair value hierarchy for assets and liabilities measured at fair value and expands required disclosure about fair value measurements. As of December 31, 2008, the Company measured its money market funds at fair value based on quoted prices that are equivalent to par value (Level 1). The Company did not have any assets measured at fair value on a recurring basis using significant other observable inputs (Level 2) or significant unobservable inputs (Level 3), or any liabilities measured at fair value as prescribed by SFAS No. 157.

Financial instruments are defined as cash, evidence of an ownership interests in an entity or contracts that impose an obligation to deliver cash, or other financial instruments to a third party. Cash and cash equivalents, which are primarily cash and funds held in money-market accounts on a short-term basis, are carried at fair market value. The carrying amounts of accounts receivable, accounts payable, and accrued expenses approximate fair value because of the short maturity term of these instruments. The carrying value of the Company’s debt is reported in the financial statements at cost. Although, there is no active market for the debt, the Company has determined that the carrying value of its debt approximates fair value due to the variable interest which resets every one to three months. The estimated fair value of the Company’s debt at December 31, 2008 and December 31, 2007 was $192.8 million and $193.3 million, respectively. As of December 31, 2008 and 2007, the Company had no derivative financial instruments. The Company’s policy is to record derivative instruments at fair value with changes in value recognized in earnings during the period of change.

Property and Equipment

Property and equipment are stated at cost and are depreciated using the straight-line method over their estimated useful lives, generally five to seven years for furniture and equipment, three to five years for computer equipment, and three to five years for software. Leasehold improvements are amortized over the shorter of the useful life of the asset or the lease term, generally five to ten years.

Foreign Currency Translation and Transactions

The Company’s consolidated financial statements are translated into U.S. dollars in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 52, Foreign Currency Translation (“SFAS 52”). For all operations outside the United States, assets and liabilities are translated in U.S. Dollars at the current rates of exchange in effect at the balance sheet date. Income and expense items are translated at the average exchange rate for the year. The resulting translation adjustments are recorded in “Accumulated Other Comprehensive Deficit,” a separate component of stockholders deficit. Foreign currency transactions are denominated in a currency other than a subsidiary’s functional currency. A change in the exchange rates between a subsidiary’s functional currency and the currency in which a transaction is denominated increases or decreases the expected amount of functional currency cash flows upon settlement of the transaction. That increase or decrease in expected functional currency cash flows is reported by the Company as a foreign currency transaction gain (loss) and are recorded in “Other (Expense) Income, Net.”

 

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Software Development Costs

Software development costs incurred subsequent to establishing technological feasibility and until general release of the software products are capitalized in accordance with SFAS No. 86, Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed (“SFAS 86”) when the timeframe between technological feasibility and general release are significant. Certain development efforts include the preparation of a detailed program design, which is the basis for establishing technological feasibility. Other efforts do not involve creation of a detailed program design, and therefore technological feasibility is not established until a working model of the software is developed, which generally occurs just prior to general release of the software.

Amortization of capitalized development costs begins once the products are available for general release. Amortization is determined on a product-by-product basis using the greater of a ratio of current product revenue to projected current and future product revenue, or an amount calculated using the straight-line method over the estimated economic life of the product, which is generally four years. Software development costs of $349,000, $412,000, and $856,000 were capitalized for the fiscal years 2008, 2007, and 2006, respectively. Amortization of capitalized software was $1.3 million, $1.5 million, and $1.8 million for the same respective periods. All other research and development costs are expensed as incurred.

Income Taxes

Income taxes are accounted for in accordance with SFAS No. 109, Accounting for Income Taxes (“SFAS 109”) and FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes—An Interpretation of FASB Statement No. 109 (“FIN 48”). Under SFAS 109, deferred tax assets and liabilities are computed based on the difference between the financial statement and tax basis of assets and liabilities and are measured by applying enacted tax rates and laws for the taxable years in which those differences are expected to reverse. In addition, in accordance with SFAS 109, a valuation allowance is required to be recognized if it is believed “more likely than not” that a deferred tax asset will not be fully realized. FIN 48 prescribes a recognition threshold of more-likely-than-not, and a measurement attribute for all tax positions taken or expected to be taken on a tax return, in order for those positions to be recognized in the financial statements. The Company continually reviews tax laws, regulations and related guidance in order to properly record any uncertain tax liabilities.

Goodwill and Other Intangible Assets

The Company allocates the purchase price paid in a purchase business combination to the assets acquired, including intangible assets, and liabilities assumed at estimated fair values considering a number of factors, including the use of an independent appraisal.

In estimating the fair value of acquired deferred revenue, the Company considers the direct cost of fulfilling the legal performance obligations associated with the liability, plus a normal profit margin. The Company amortizes its intangible assets using accelerated or straight-line methods which best approximate the proportion of future cash flows estimated to be generated in each period over the estimated useful life of the applicable asset.

Acquired intangible assets are being amortized over the following periods:

 

Customer relationships

   5–9 years

Acquired technology

   2–4 years

Acquired project management process

   5 years

Trade names

   One year–indefinite life

Non-compete agreements

   Term of agreement

 

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The value associated with in-process technology is written off at the date of acquisition in accordance with FASB Interpretation No. 4, Applicability of FASB Statement No. 2 to Business Combinations Accounted for by the Purchase Method (“FIN 4”), when there is no alternative future use. The associated expense is included in “Research and Development” expense.

In accordance with SFAS No. 142, Goodwill and Other Intangible Assets (“SFAS 142”), goodwill and our other indefinite-lived intangible assets are not amortized, but instead tested for impairment at least annually. Accordingly the Company performs impairment tests as of December 31 of each year. No impairment of goodwill or other indefinite-lived intangible assets were recorded based upon these tests as of December 31, 2008, 2007, or 2006, as the Company determined that the fair value of these assets exceeded their carrying value.

In accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS 144”), the Company reviews its long-lived assets, including property and equipment and intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amounts of the assets may not be fully recoverable. If the total of the expected undiscounted future net cash flows is less than the carrying amount of the asset, a loss is recognized for the difference between the fair value and carrying amount of the asset. There have been no impairment charges for the years ended December 31, 2008, 2007, and 2006.

Debt Issuance Costs

Costs incurred in connection with securing the Company’s credit facility and debentures are capitalized and recorded as “Prepaid Expenses and Other Current Assets” and “Other Assets” on the consolidated balance sheets. The debt issuance costs are amortized and reflected in “Interest Expense” over the respective lives of the loans using the effective interest method.

Stock-Based Compensation

On January 1, 2006, the Company adopted the provisions of the Financial Accounting Standards Board (“FASB”) SFAS No. 123R, Share-Based Payment (“SFAS 123R”), which is a revision of SFAS 123, supersedes APB Opinion No. 25, and began recognizing stock-based compensation expense in its statement of operations using the “modified prospective” transition method. SFAS 123R which requires the measurement of cost of employee services received in exchange for an award of equity instruments, including employee stock options, restricted stock awards, and employee stock purchases under the Company’s Employee Stock Purchase Plan (“ESPP”) based on the fair value of the award on the measurement date of grant. The Company determines the fair value of options granted using the Black-Scholes-Merton option pricing model and recognizes the cost over the period during which an employee is required to provide service in exchange for the award.

Income Per Share

Net income per share is computed under the provisions of SFAS No. 128, Earnings Per Share (“SFAS 128”). Basic earnings per share is computed using net income and the weighted average number of common shares outstanding. Diluted earnings per share reflect the weighted average number of common shares outstanding plus any potentially dilutive shares outstanding during the period. Potentially dilutive shares consist of shares issuable upon the exercise of stock options, restricted stock, and shares from the Employee Stock Purchase Plan.

 

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The following table sets forth the computation of basic and diluted net income per share (in thousands, except share and per share data):

 

     Year Ended December 31
     2008    2007    2006

Basic earnings per share computation:

        

Net income (A)

   $ 23,519    $ 22,519    $ 15,298
                    

Weighted average common shares–basic (B)

     43,120,922      40,036,600      39,331,894
                    

Basic net income per share (A/B)

   $ 0.55    $ 0.56    $ 0.39
                    

Diluted earnings per share computation:

        

Net income (A)

   $ 23,519    $ 22,519    $ 15,298
                    

Shares computation:

        

Weighted average common shares—basic

     43,120,922      40,036,600      39,331,894

Effect of dilutive stock options, restricted stock, and ESPP

     1,158,897      1,580,807      930,346
                    

Weighted average common shares–diluted (C)

     44,279,819      41,617,407      40,262,240
                    

Diluted net income per share (A/C)

   $ 0.53    $ 0.54    $ 0.38
                    

For the years ended December 31, 2008 and 2007, options to purchase 4,158,873 and 1,129,350 shares of common stock, respectively, were outstanding but not included in the computation of diluted earnings per share because the options’ effect would have been anti-dilutive.

Recent Accounting Pronouncements

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (“SFAS 159”). SFAS 159 provides the option to carry many financial assets and liabilities at fair values, with changes in fair value recognized in earnings. SFAS 159 is effective for fiscal years beginning after November 15, 2007. Currently, the Company has elected not to adopt the fair value provisions in SFAS 159.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (“SFAS 141R”), which replaces SFAS 141. SFAS 141R requires assets and liabilities acquired in a business combination, contingent consideration, and certain acquired contingencies to be measured at their fair values as of the date of acquisition. SFAS 141R also requires that acquisition-related costs and restructuring costs be recognized separately from the business combination. SFAS 141R is effective for fiscal years beginning after December 15, 2008. For business combinations entered into after the effective date of SFAS 141R, prospective application of the new standard is applied. The guidance in SFAS 141 is applied to business combinations entered into before the effective date of SFAS 141R.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements—an amendment of ARB No. 51 (“SFAS 160”). SFAS 160 clarifies the accounting for noncontrolling interests and establishes accounting and reporting standards for the noncontrolling interest in a subsidiary, including classification as a component of equity. SFAS 160 is effective for fiscal years beginning after December 15, 2008. The Company does not currently have any noncontrolling interests.

In February 2008, the FASB issued FASB Staff Position 157-2, Effective Date of FASB Statement No. 157 (“FSP 157-2”). The provisions of SFAS No. 157, Fair Value Measurements (“SFAS 157”), which provide guidance for, among other things, the definition of fair value and the methods used to measure fair value, were adopted January 1, 2008 for financial instruments. The provisions adopted in 2008 did not have an impact on the

 

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Company’s financial statements. FSP 157-2 delays the effective date of SFAS No. 157 for all nonrecurring fair value measurements of nonfinancial assets and liabilities (except for those that are recognized or disclosed at fair value in the financial statements on a recurring basis) until fiscal years beginning after November 15, 2008, or January 1, 2009 for Deltek. The Company is in the process of evaluating the impact of the provisions to be adopted in 2009.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities—an amendment of FASB Statement No. 133 (“SFAS 161”). SFAS 161 requires enhanced disclosures regarding how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for, and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. SFAS 161 is effective for fiscal years beginning after November 15, 2008, with early adoption permitted. The Company does not currently have any derivative instruments.

In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS 162”). SFAS 162 identifies the sources of accounting principles and provides the framework for selecting the principles used in the preparation of financial statements of nongovernmental entities that are presented in conformity with accounting principles generally accepted in the United States. SFAS 162 was effective November 15, 2008. The adoption of SFAS 162 did not have an impact on our current accounting practices.

In June 2008, the FASB issued FASB Staff Position EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities, (“FSP EITF 03-6-1”). FSP EITF 03-6-1 addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting, and therefore need to be included in the computation of earnings per share under the two-class method as described in FASB Statement of Financial Accounting Standards No. 128, “Earnings per Share.” FSP EITF 03-6-1 is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 and earlier adoption is prohibited. All prior-period earnings per share (“EPS”) data presented shall be adjusted retrospectively (including interim financial statements, summaries of earnings and selected financial data) to conform to the provisions of this Staff Position. The Company is in the process of evaluating the impact of the provisions to be adopted in 2009.

In October 2008, the FASB issued FASB Staff Position 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active, (“FSP 157-3”). FSP 157-3 clarifies the application of SFAS 157 in a market that is not active and provides key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. The guidance emphasizes that determining fair value in an inactive market depends on the facts and circumstances and may require the use of significant judgments. FSP 157-3 is effective upon issuance, including prior periods for which financial statements have not been issued, and therefore was effective for the Company at September 30, 2008. The Company currently does not have any financial assets in a market which is inactive.

In November 2008 EITF 08-7, Accounting for Defensive Intangible Assets (“EITF 08-7”) was issued. This Issue clarifies the accounting for acquired intangible assets in situations in which the acquirer does not intend to actively use the asset but intends to hold (lock up) the asset to prevent its competitors from obtaining access to the asset (a defensive intangible asset). Under EITF 08-7 defensive intangible assets will be treated as a separate asset recognized at fair value and assigned a useful life in accordance with FAS 142. EITF 08-7 is effective for intangible assets acquired on or after the beginning of the first annual reporting period beginning on or after December 15, 2008, or January 1, 2009 for Deltek. The Company will apply the guidance in EITF 08-7 prospectively to intangible assets acquired after the effective date of EITF 08-7. The Company does not expect the adoption of EITF 08-7 to have a material impact on our consolidated financial statements.

2.    RECAPITALIZATION

In April 2005, the Company underwent a leveraged recapitalization and change of control transaction with an investor group which consists of New Mountain Partners II, L.P., Allegheny New Mountain Partners, L.P.,

 

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and New Mountain Affiliated Investors II, L.P. (collectively “New Mountain Funds”). During 2005, as part of the recapitalization, all vested Stock Appreciation Rights (“SARs”) as of April 30, 2005 were paid out at the established market value of $36.10 for a total of $31.0 million.

Of the $31.0 million SAR payments made as part of the recapitalization, $23.5 million was expensed in 2005, $20.8 million of which was included as part of “Recapitalization Expenses” in the income statement and the remaining $2.7 million was included in the appropriate income statement line based upon the employees’ compensation expense. In addition, another $1.8 million was expensed at the time of the recapitalization for SAR payments to be made to executives (the “Executive SAR Payments”) over a period of time. These payments represent agreed-upon payments associated with converted and monetized unvested SARs, and do not have any vesting requirement and, therefore, became payable as a result of the recapitalization.

The following summarizes the balance of the executive SAR payment liability at December 31, 2008 and December 31, 2007 (in thousands):

 

Executive SAR payment liability at January 1, 2007

   $ 495  

Cash payments made in 2007:

     (360 )
        

Executive SAR payment liability at December 31, 2007

     135  

Cash payments made in 2008:

     (135 )
        

Executive SAR payment liability at December 31, 2008

   $ —    
        

In addition to the SAR payments above, the Company agreed to convert employee unvested SARs outstanding into employee retention bonuses, which vest and are being expensed over the four-year vesting period beginning May 2005. The total remaining value of these bonuses, after amounts forfeited, at December 31, 2008, was $644,000. Of this amount, $658,000, $724,000, and $807,000 was expensed for 2008, 2007, and 2006, respectively, for these retention bonuses and classified in the income statement consistent with related employee labor. Of the amounts expensed, $431,000 and $516,000 for employee retention payments remained outstanding as of December 31, 2008 and 2007, respectively, and included in “Accounts Payable and Accrued Expenses.”

Pursuant to the terms of the recapitalization, the Company is obligated to make a payment to the selling stockholders equal to the amount of income taxes that the Company would be required to pay, but for the availability of deductions related to the SAR payments made in connection with the transaction. The amount and timing of the additional payments to the selling stockholders, which was estimated as of December 31, 2005 to be $12.4 million, are contingent on the use and timing of the SAR deductions to offset cash payments that would otherwise be made for income taxes. During 2007 and 2006, $4.8 million and $7.0 million, respectively, of this amount was paid to the selling stockholders and the remaining obligation of $317,000, included in “Accrued Liability for Redemption of Stock in Recapitalization” as of December 31, 2008 is expected to be paid during 2009.

3.    BUSINESS ACQUISITIONS

MPM

On August 29, 2008, the Company acquired certain assets and operations of Planview, Inc.’s MPM solution (“MPM”). The results of MPM have been included in the consolidated financial statements since the acquisition date. MPM is an earned value management (“EVM”) software application used by government contractors and agencies to meet the complex compliance requirements for their programs issued by the U.S. Federal Government.

The aggregate purchase price was $16.4 million and included cash payments through September 30, 2008 of approximately $16.4 million, which consisted of cash consideration and certain acquisition costs.

 

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The following table summarizes the estimated fair values of assets acquired and liabilities assumed at the date of acquisition (in thousands):

 

Accounts receivable

   $ 48  

Fixed assets

     7  

Deferred tax assets

     124  

Intangible assets

     8,870  

Goodwill

     7,820  

Deferred revenue

     (321 )

Deferred tax liability

     (124 )
        

Total purchase price

   $ 16,424  
        

The components and the initial estimated useful lives of the intangible assets listed in the above table as of the acquisition date are as follows (in thousands):

 

         Amount        Life

In-process technology

   $ 290   

Tradenames

     300    Indefinite

Developed software

     830    4 years

Customer relationships

     7,450    7 years
         
   $ 8,870   
         

The acquired tradenames were deemed to have an indefinite life and accordingly, are not being amortized until such time that the useful life is determined to no longer be indefinite in accordance with SFAS No. 142, Goodwill and Other Intangible Assets (“SFAS 142”). The tradenames are tested for impairment in accordance with the provisions of SFAS 142. The developed software is being amortized using an accelerated amortization method over four years and the expense is included in “Cost of Software License Fees” expense. The customer relationships are being amortized using an accelerated amortization method over seven years and the expense is included in “Sales and Marketing” expense. The $290,000 of in-process technology was written off as a research and development expense in the third quarter of 2008 as it had no alternative future use. The goodwill recorded in this transaction will be deductible for tax purposes over 15 years.

WST Pacific Pty Ltd

On May 25, 2007, the Company acquired 100% of the outstanding common stock of WST Pacific Pty Ltd (“WSTP”), a developer of earned value management (“EVM”) software and provider of services and support resources in the EVM marketplace. The results of operations of WSTP have been included in the consolidated financial statements since the acquisition date.

The aggregate purchase price, net of $602,000 in cash acquired, was $1.2 million and included cash payments through September 30, 2007 of $1.8 million. The Company has entered into retention arrangements with the two principal WSTP stockholders totaling $450,000 if the individuals are employed on the eighteen-month anniversary of the acquisition. This amount was paid in the fourth quarter of 2008 and was previously being expensed as the requisite services were provided.

 

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The following table summarizes the estimated fair values of assets acquired and liabilities assumed at the date of acquisition (in thousands):

 

Accounts receivable

   $ 586  

Fixed assets

     79  

Deferred tax assets

     90  

Intangible assets

     330